What is a Home Equity Conversion Mortgage (HECM) and how is it different from HECM for Purchase (H4P Mortgage)?
The Home Equity Conversion Mortgage (HECM) is a reverse mortgage program that is approved by the US Department of Housing and Urban Development (HUD). The Federal Housing Administration (FHA) insures HECM loans, so that borrowers are protected from lender failure and lenders are protected from potential loss at the time of repayment or foreclosure.
Like all other reverse mortgage programs, the HECM allows eligible borrowers to convert some of their home equity into cash. No payments are due until the borrower either dies, moves out, sells the home, or fails to comply with the continuing requirements of the HECM. In other words, unlike traditional mortgages, HECM borrowers need not worry about making fixed monthly payments. However, the entire balance will become due upon the occurrence of any of the aforementioned events or conditions.
HECMs are also non-recourse loans, which means that borrowers are never held liable for more than the value of the mortgaged property. In other words, if the value of the mortgaged property is less than the balance of the loan at the time of foreclosure, then the borrower or his heirs, as the case may be, cannot be forced to repay the deficiency. In this case, what the HECM must do is file an insurance claim with the FHA to recover its loss.
To be eligible for the HECM program, you need to be at least 62 years old and using the mortgaged property as your principal residence. You will also need to complete a reverse mortgage counseling session with a counselor or agency approved by the HUD. You should have no outstanding federal loans or overdue property taxes on your home. If you have an existing mortgage on your home, you will need to pay it off with the proceeds of the HECM, assuming that your loan application is approved. Finally, you need to pass the financial assessment test, which determines if you are able to comply with the ongoing requirements of the HECM, namely the timely payment of insurance premiums and property taxes, and the ability to keep your home in a condition acceptable to HUD standards.
The HECM is different from HECM for Purchase (H4P Mortgage).
Established by the Housing and Economic Recovery Act of 2008, the HECM for Purchase program is a special-purpose type HECM that allows eligible borrowers to purchase a new principal residence using the loan proceeds. In other words, eligible borrowers can use their HECM for Purchase down payment proceeds to buy and move into their dream home.
Who are eligible for HECM for Purchase (H4P Mortgage)?
Similar to a traditional HECM, eligible borrowers for H4P mortgage must still be at least 62 years old and using the mortgaged property as their principal residence. Obviously, however, the principal property in this case would be the home you intend to purchase using the loan proceeds. You also need to undergo a reverse mortgage counseling session; have no outstanding federal loans or overdue property taxes; have no existing mortgages; pass the financial assessment test, and comply with the ongoing requirements of the HECM.
However, in addition to the traditional HECM requirements, HECM reverse mortgage for purchase borrowers also need to select a property that is eligible for HECM for Purchase; occupy the new property within 60 days from the date of closing; and satisfy the monetary investment requirement.
What are the benefits of HECM for Purchase (H4P Mortgage)?
HECM reverse mortgage for purchase loans allow borrowers to purchase a new home, without having to worry about making monthly mortgage payments. Generally speaking, the program will mostly benefit borrowers who want to downsize or move to a different location for various reasons. Here are a few examples:
- a five-bedroom home may have been a good idea when your kids were still living with you but may eventually become overburdensome during your retirement years;
- you may want to move to a neighborhood that is closer to your kid’s house so that you can visit your grandkids more often; or
- you may have always dreamed of living in a bungalow by the beach but never had the chance to do so.
What properties are eligible for HECM reverse mortgage for purchase (H4P Mortgage)?
Generally speaking, if a property is eligible for a traditional HECM, it should also be eligible for H4P Mortgage. For example, provided that the minimum FHA standards are met, most single-family homes and community properties, such as townhouses and condominium units, should be eligible for H4P mortgage.
What properties are not eligible for HECM for Purchase (H4P Mortgage)?
There are several properties which are ineligible for HECM reverse mortgage for purchase, such as:
- Cooperative units;
- Residences without a certificate of occupancy;
- Bed-and-breakfast establishments;
- Boarding houses;
- Manufactured homes built before June 15, 1976; and
- Manufactured homes built after June 15, 1976 that do not meet the minimum safety standards, that lack a permanent foundation, or that were previously moved from another location. [Read reverse mortgage on manufactured homes]
A more detailed description of eligible and ineligible properties for HECM reverse mortgage for purchase is provided in the FHA’s Mortgage Letter 2009-11.
What are the minimum FHA standards for eligible properties?
As mentioned, a particular property must meet the minimum FHA standards to qualify for HECM for Purchase. The most common issues relate to the structural integrity of the property and the safety of the homeowner. For example, a property will be ineligible if it has no running water, no primary heating source, a problematic lighting or electrical system, a damaged roof, inoperable doors or windows, or has local building code violations.
FHA standards, however, can be very technical so it would be best to consult a qualified appraiser, professional home inspector, or some other expert to determine eligibility. These experts are specially trained to evaluate the physical condition and integrity of a structure, identify the areas that need repair or replacement, estimate the remaining lifespan of structural systems, and determine other maintenance-related issues.
What is the maximum claim amount?
The maximum claim amount represents your principal limit plus the FHA insurance premium for the HECM for Purchase transaction. The amount is either the
- appraised value of the property to be purchased;
- the selling price; or
- the FHA mortgage limit for single-family homes, whichever is less.
Do note that the estimated closing costs and the initial insurance premium are not used to determine the maximum claim amount. Thus, they will need to be paid out of your own pocket.
What is typically included in the closing costs?
Closing costs for HECM for Purchase loans usually include origination fees (representing the lender’s processing fees for the loan), appraisal fees (representing the professional fees for the appraiser that examines the new property), recording fees (representing the fees of your county recorder’s office which will record the reverse mortgage), and notarial fees (representing the fees for the notarization of loan documents).
You should also note that closing costs for HECMs and HECMs for Purchase are usually higher than those charged for traditional mortgages.
How much is the initial insurance premium?
As mandated by law, the initial insurance premium will be equivalent to two percent of the maximum claim amount of the H4P Mortgage. This amount needs to be paid by the borrower but will be remitted by the lender to the proper authorities within 15 days from the date of closing.
What is the monetary investment requirement?
As mentioned, one of the additional requirements for HECM for Purchase borrowers is that they must satisfy the monetary investment requirement, which basically forms part of the HECM for Purchase down payment for their new home.
The monetary investment requirement is the amount that needs to be raised by the borrower to make up for the difference between the
- principal limit; and
- the selling price of the new property plus other loan fees (e.g. closing costs and initial insurance premiums).
To satisfy the monetary investment requirement, the borrower must use only the funding sources approved by the FHA, namely:
- cash on hand or savings; and
- cash from the sale or liquidation of the borrower’s other assets, properties or investments.
Do note that the FHA strictly prohibits the use of certain funds to satisfy the monetary investment requirement for HECM for Purchase down payment, including but not limited to seller concessions or contributions, interest rate buydowns, builder incentives, loan discount points, and financial assistance from any party that benefits from the transaction.
Similarly, the monetary investment requirement cannot be satisfied through “gap financing,” which the process of obtaining temporary financing, such as personal loans, credit card advances, and seller financing, to “bridge the gap” for the said requirement. For example, if the monetary investment requirement is estimated at $50,000 but the borrower only has $45,000 in liquid assets, gap financing cannot be used to “bridge the gap” of $5,000.
In this situation, the borrower will have no other option but to seek other FHA-approved funding sources to make up for the deficiency and reach the necessary HECM for Purchase down payment. If you find yourself in a situation where you need to “bridge the gap,” it is recommended that you consult your reverse mortgage counselor to determine what other options may be available. These experts may know of other options that you may legally take to achieve the necessary HECM for Purchase down payment.
Borrowers will need to submit supporting documentation to show satisfaction of the monetary investment requirement and HECM for Purchase down payment before the date of closing. These supporting documents may include bank statements or verifications of deposit. Failure to do so may result in the rejection of the H4P Mortgage application, costly and frustrating delays, and, at worst, administrative action.
If you have some extra cash on hand, you may also choose to increase your monetary investment and your HECM for Purchase down payment, so that you can draw on the remaining portion of the proceeds of the H4P Mortgage loan on a future date. However, please consult with your lender and reverse mortgage counselor before electing this option.
Is there a right of rescission in HECM for Purchase (H4P Mortgage)?
The availability right of rescission (i.e. the right to cancel the transaction within a specific time limit after the date of closing) is usually unavailable in H4P Mortgage loans. However, there are certain exceptions to this, depending on the lender and the circumstances of each case. These exceptions are too complicated to discuss. Hence, we recommend that you immediately seek expert assistance from either your reverse mortgage counselor or lawyer if you want to rescind your H4P Mortgage loan.
Can HECM for Purchase be used for HECM refinancing?
No. HECM refinancing is only available when the mortgaged property will stay the same. As mentioned, however, HECM for Purchase can only be used to purchase a new property by using the loan proceeds with the monetary investment requirement to form part of the HECM for Purchase down payment. Thus, borrowers who have an existing HECM, the HECM for Purchase will be treated as new HECM and you cannot avail of the upfront mortgage insurance premium reduction, which you would have otherwise received in HECM refinancing.
Do note that if you need HECM refinancing, there is another special-purpose type HECM that known as HECM-to-HECM Refinancing that can help with your concern. Unfortunately, HECM-to-HECM Refinancing is too complicated to include in this article. Hence, we recommend that you consult your reverse mortgage counselor if you have a particular concern regarding this issue.
Can HECM for Purchase be used for property flipping?
No. The H4P Mortgage has several restrictions that discourage property flipping. HECM lenders are mandated to ensure that the borrower is purchasing the property only from the owner of record. To be eligible for H4P Mortgage financing, the property cannot be resold to the borrower within 90 days from the date of the last sale. Finally, if the property is resold between 91 to 180 days and the new selling price exceeds the previous selling price by 100 percent, the FHA will require additional documentary requirements to justify the new valuation.
Why is property flipping discouraged?
Property flipping is discouraged because borrowers may be scammed into buying a distressed home that is overpriced or is need of substantial and costly repairs. In these instances, property flipping can be considered as an act of fraud since it inflates the value of the property without justifiable reason after making only a few cosmetic changes thereto.
What should you do if you have been victimized by a property flipping scam?
If you think that you have been a victim of a property flipping scam, we highly recommend that you consult your reverse mortgage counselor or lawyer as soon as possible. He should be able to discuss your options or at least refer you to a different expert who can address your concerns.