Real estate trouble: Reverse mortgages deplete FHA insurance reserves

The Federal Housing Administration's 2018 audits revealed that losses from real estate reverse mortgages destroyed about a third of the taxpayer-guaranteed insurance reserves.

The FHA Mutual Mortgage Insurance Fund on November 15 reported an $8-billion profit with a $1.26-trillion portfolio of loan guarantees for the fiscal year ending September 30.  FHA's traditional single-family home loan portfolio program is very profitable due to the housing boom and has a positive economic net worth of +$46.8 billion.  But its reverse mortgage program for seniors, called Home Equity Conversion Mortgage (HECM) that represents only 6 percent of FHA guarantees, disclosed its economic net worth plunged to a negative -$13.6 billion, almost triple the prior year's negative net worth of -$5 billion.

Congress originated FHA mortgage insurance during the Great Depression to stabilize banks that suffered skyrocketing mortgage defaults and foreclosures.  The program was drastically modified since 1974 with a series of bipartisan Congressional revisions to focus on assisting lower- and very low-income Americans to borrow money to buy a home.

FHA mortgage insurance now allows private lenders to make home loans for up to $679,650 to borrowers with poor credit risk of repayment, FICO scores of between 500 to 579 to obtain loans with 10 percent down payments, and borrowers with fair credit risk of repayment scores of 580 and above to obtain loans with just 3.5-percent down payments. 

At the bottom of the real estate crash in 2012, FHA's mortgage insurance fund had estimated taxpayer losses of up to $150 billion.  But the Obama administration cut the taxpayer bailout cost to $1.7 billion by its Justice Department forcing the five biggest U.S. banks into $25 billion in settlements for making mortgage loans, hit banks for another $7 billion in False Claims Act fraud settlements, and pocketed billions more in penalties under the Financial Institutions Reform, Recovery and Enforcement Act.

Unwilling to make new FHA-guaranteed loans and then being sued again under the False Claims Act, most large banks exited the program during the Obama administration and were replaced by undercapitalized small banks and mortgage brokers. 

Congress still allows the FHA portfolio to be leveraged up to 50 times with a minimum capital reserve ratio of 2 percent.  The roaring bull market in real estate has pushed the FHA insurance fund up to an economic net worth of +$34.8 billion at the end of September, but FHA's capital reserve ratio is just 2.76 percent, a 36 times leverage.

Reverse mortgages were supposed to offer seniors the ability to generate retirement fixed monthly cash or line of credit by borrowing money against their home equity.  Unlike standard loans, no repayments are required during the borrower's lifetime, and homeowner heirs could repay the loan or turn the home over to the lender.  Seniors could default only by not making property repairs or by failing to pay property tax and insurance.

But Reuters reported that the California Reinvestment Coalition found that foreclosures on reverse loans that averaged 490 a month from January 2009 to March 2016, spiked by 646 percent during the last nine months of the Obama administration to 3,664 per month.  CRC added that HUD data revealed that defaults expected to lead to involuntary foreclosures doubled in fiscal 2016 to 89,064, from 45,381 in the prior year.

President Trump's Federal Housing Administration commissioner, Brian Montgomery, who was confirmed by the Senate in May, is moving quickly to investigate the HECM high-risk taxpayer-guaranteed portfolio, according to the Wall Street Journal.

After an FHA staff review of 134,000 reverse mortgages found that at least 37 percent of reverse mortgage appraisals were overvalued by 3 percent or more, Montgomery announced that HECM reverse mortgage lenders provide a second property appraisal on loans flagged by FHA as potentially having an inflated property valuation.

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