While the Home Equity Conversion Mortgage (HECM) program’s estimated 2020 impact to the federal budget deficit is seen as negligible, according to recent analysis by the Congressional Budget Office, there are several ways to shore up the ongoing impact of the program to the Federal Housing Administration, the analysis suggests.
Among four suggested program modifications, CBO details suggestions for converting the program to a federal direct loan program; reducing the trigger for assigning HECMs to FHA; sharing loss risk with lenders; and slowing the growth of the borrower’s available principal limit.
Estimated losses of $350 million are based on a projected 39,000 HECMs originated 2020, according to the CBO analysis, and less government risk could have a positive impact on the program. Along with the four suggested measures for change, CBO also includes the program’s effects on the federal budget both as-is and in each of the proposed scenarios.
Alternative options for program growth
In exploring the ramifications of converting the HECM program into a direct loan program – in which the government would fund HECMs, although private lenders would still handle the loan origination process – savings could be made due to the ability of FHA as a sole, direct lender to achieve economies of scale in non-financing costs that are not available to individual private lenders.
However, lenders would feel a direct impact from the loss of spread income because they would no longer fund or service HECMs, unless FHA instructs them to do so. The impact on borrowers would be dependent on FHA and how a direct loan program would be implemented.
Second, the report discusses reducing the trigger for assigning HECMs to FHA from 98 percent of the maximum claim amount to a lower percentage.
“Savings under [the trigger reduction] option would result from increasing the length of time during which FHA would earn spread income without increasing the agency’s risk of losses,” the report reads. “The savings would be partly offset by FHA’s higher disposition costs for those loans, if the agency was unable to effectively manage the increased number of foreclosed properties resulting from earlier assignments.”
Third is the possibility of sharing risk of HECM losses with lenders. “FHA’s guarantee of repayment makes lenders more willing than they would be otherwise to offer reverse mortgages to all borrowers who qualify for HECMs,” the report reads. “Changing FHA’s guarantee to cover only a portion of losses—with lenders covering the rest—would reduce the risk of losses to the federal government.”
This option’s viability is reduced because a change of that magnitude would likely make HECM loans less available, since lenders would likely be unwilling to accept their share of risk on certain borrowers or charge higher interest rates, fees or both in an attempt to recoup costs associated with the risk of losses, the report says.
The fourth and final explored option is slowing the growth of a borrower’s available principal limit.
“Under this option, the principal limit would grow at a slower rate than it does now: by just enough to keep the amount of a borrower’s undrawn funds steady,” the report says. “Slower growth of the principal limit would reduce budgetary costs to FHA by decreasing the likelihood that a loan would terminate with a balance greater than the home’s current value.”
While the CBO forecasts that lenders would likely experience “little direct impact” from this proposed change, borrowers could have the potential to increase their initial draw or to draw funds earlier than they would under the current parameters of the program.
In discussing the impact of the program on the federal budget, CBO reveals that recent program changes implemented in late 2017 have affected the forecast of new reverse mortgage endorsements in 2020.
“CBO forecast that FHA would guarantee roughly 39,000 new HECMs in 2020 — 8 percent more than the forecast for 2019 but about 20 percent less than in 2018,” the report reads. “The projected decline between 2018 and 2019 results mainly from the expectation that more stringent program features introduced in recent years — such as lower principal limit factors and financial assessments of potential borrowers — will cause homeowners to choose other ways of extracting equity.”
While the HECM program has a chance to reduce the federal budget deficit according to its forecasts, the overall effect on the deficit itself would not be pronounced, the agency estimates.
“Using the accounting approach specified by the Federal Credit Reform Act (FCRA), CBO projects that HECMs would reduce the federal budget deficit in 2020 by a negligible amount — meaning that for the cohort of new loans guaranteed in that year, the present value of projected cash outflows from FHA is slightly smaller than the present value of the payments that FHA is projected to collect over the lifetime of those loans,” the report reads.
However, under a fair-value basis – where costs are estimated on the basis of the market value of the government’s obligations – the program is estimated to cost the federal government $350 million and increase the deficit further.