Reverse Mortgage Closing Costs Explained

By: John Krajsa
AFC Reverse Mortgage

If Truth in Lending Act (TILA) TALC disclosures estimate the true cost of a HECM to be reasonable as in our example last week, shouldn’t it be game, set and match to TILA, and end of discussion?  We think so.  After all, it takes only one example to disprove a generalization, and one reasonably priced HECM means they cannot possibly all be expensive.  However, we thought it might be helpful to address some HECM dollar cost issues.

Here is our example from last week, which included abbreviated TALC rate estimates as of June 17, 2010, for a Home Equity Conversion Mortgage (HECM) with youngest borrower age 76 and a home appraised at $250,000.

Available Fixed Rate Loan Amount                  $160,000
(Fixed Interest Rate 5.49%)

Available Adjustable Rate Loan Amount       $152,522
(Initial Interest Rate 2.10%*)

 

 

High Closing Costs

This week we will address the issue of high closing costs. HECM closing costs are higher than for other loans, mostly because of the FHA insurance premium.  Some state that HECM closing costs can be as much as 5% of home value – but – can we tell by looking at closing costs alone if a loan is expensive?

HECM closing costs are that portion of total cost that is front loaded, that is, accrued at the beginning of the loan. If the total cost of a loan (as determined by TILA cost estimates that include the closing costs) is reasonable, how could the timing of some of these costs make a loan expensive? In fact, front loaded costs cannot make a reasonably priced loan expensive any more than a large down payment (a front loaded cost) can make a reasonably priced car expensive.

A lower rate loan with high closing costs but low-interest charges can ultimately be far less expensive than one with no closing costs and a higher rate because low-interest charges can offset closing costs. That is why we have TILA cost estimates, so that we have a standard of cost estimation by which we can compare the cost of differently structured loans, and not make the mistake of assuming that high closing costs means expensive or that no closing costs means inexpensive.

We should note that TALC rates are higher for shorter term loans and are most reasonable when a HECM is used for its intended purpose, as a long-term solution. We should also note that, unlike a down payment for a car, HECM closing costs are accrued and are not required to be paid up front.

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Cost of a Reverse Mortgage – TILA vs. APR

By: John Krajsa
AFC Reverse Mortgage

The last few weeks we have pointed out that periodic cost, not dollar cost, is the appropriate measure of the cost of a loan and that it is impossible to evaluate loan cost looking at dollar cost alone. Truth in Lending Act (TILA) loan cost estimates such as the Annual Percentage Rate (APR) are not perfect, but since 1968 have been the starting point for and by many are considered the gold standard in loan cost analysis. TILA disclosures use periodic cost in that they estimate the true cost of a loan expressed as an annual rate. For reverse mortgages the primary TILA disclosure is the Total Annual Loan Cost or “TALC” disclosure. Unlike the APR, which estimates the cost at one point in time, TALC disclosures estimate the cost of a reverse mortgage at various points in time.

Here are abbreviated TALC rate estimates as of June 17, 2010, for a Home Equity Conversion Mortgage (HECM) with youngest borrower age 76 and a home appraised at $250,000.

Available Fixed Rate Loan Amount                       $160,000
(Fixed Interest Rate 5.49%)                           

Available Adjustable Rate Loan Amount            $152,522
(Initial Interest Rate 2.10%*)             

 

The above numbers tell us that the estimated annual cost of the fixed rate HECM would be 8.88% after two years, but would drop to 6.52% after 15 years. The estimated annual cost of the adjustable rate HECM would be 7.75% after two years, but would drop to 3.45% after 15 years, based on current rates.

The fixed rate TALC numbers are actual, since the full amount is borrowed at closing and the rate is fixed. The adjustable rate TALC numbers are based on the current rate of 2.1%, and the actual long-term adjustable rate cost may be higher or lower than estimated due to rate adjustments and additional amounts borrowed.

The above TALC rates include ALL costs, such as financed closing costs (about $12,000 for the adjustable and about $8,000 for the fixed), FHA insurance premiums and monthly service fees, and of course, interest.

We should also note that the 5.49% fixed rate is not a 15 year or 30 year rate; it is a lifetime rate. The Annual Percentage Rate (APR) for the fixed rate version of the above loan is 6.47%.

The above TILA cost estimates, in our view, do not support the view that all HECM loans are expensive, but rather estimate the true cost of the above HECM to be very reasonable and to be lowest when used for its intended purpose, as a long-term solution.

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Short Term Solutions – How Senior Citizens Can Stay at Home

As a follow-up to our previous post on “Resources For Living Independently” we will take a deeper look at solutions available to Seniors who want to stay at home. 

Many older Americans are finding it necessary to tap into their home’s equity as a resource to be able to stay in their home.  This week we will look at a variety of solutions to using the equity in your home to pay for the help you need.

These include grants and loans from local government, such as home improvement loans that are filed on the residence as a mortgage that is released without need for repayment after a period of years. This type of program does not require a monthly payment and so income is not a factor in qualifying.

A homeowner with sufficient income will qualify for a traditional loan from a bank or a licensed lender. These loans may be for a specific purpose, such as replacing the roof, or may be consolidation loans that combine the balances of existing loans to reduce monthly payments.

When a loan of this type is filed as a mortgage, it is called a home equity loan. These loans do require monthly payments by the homeowner through which the homeowner returns the principal amount of the loan along with the interest that accrues during the term of the loan. The problem for retirees with this type of loan is that they may not be able to make the payments, in which case they have put their home at risk. Some even get on a treadmill, obtaining a series of larger home equity loans – the purpose of each – to get caught up on the payments of the previous loan.

A related discussion can be found in the National Council on Aging “Use Your Home to Stay at Home” report.

Next week we will look at a long-term solution to help older Americans stay in their homes and have the money to pay for their daily needs that doesn’t involve monthly payments or require income to qualify.  Anybody guess what it might be?

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