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An Assault on Fairness:Quash Mortgagee Letter 08-38, part 2

Monday, April 19th, 2010

    First posted June 1, 2009



  In the dying days of the Bush administration (December 5, 2008), FHA issued Mortgagee Letter 2008-38 (ML-08-38).  ML-08-38 is a raw deal for America’s seniors who have taken, who are taking, or who plan to take HECM reverse mortgages, the dominant program in the U.S. reverse mortgage market. “An Assault on Fairness …” shows why we believe ML-08-38 is a raw deal for seniors and their heirs/estate and why we are asking HUD to quash it.

 Please read part one (below) and share article’s URL with your network and with your state’s Congressional delegation.

Thank you,                        

Atare Agbamu



     In part one of “An Assault on Fairness …,” we looked at the assumptions behind ML-08-38 and concluded that they are severely flawed. Also, we affirmed that ML-08-38 represents a disturbing departure from historical HECM non-recourse policy.We now turn to why the arms-length rules in ML-08-38 turn off seniors’ relatives and cost taxpayers money.

     As I recounted in a March 29th blog comment on ReverseMortgageDaily, the unfairness in the arms-length rules in ML-08-38 have the potential to arouse anger and alienate seniors’ heirs and relatives — core centers of influence, essential to continued HECM and reverse mortgage acceptance by seniors.

     Despite consistently high customer satisfaction with HECM and reverse mortgages, the 2007 AARP report revealed a vexing fact: a majority of seniors are still shying away from HECM and reverse mortgages. Why? There are several theories that are outside the scope of this article.

     However, we believe that when fully understood by seniors, their heirs, and the public, policies such as ML-08-38 could reinforce this adverse trend. Twenty years after relentless consumer education by HUD, Fannie Mae, AARP, NRMLA, and lenders, HECM and reverse mortgage usage by eligible seniors is still less than one percent of known reverse-capacity.

And given vital macro-economic needs to pay for baby-boomers entitlements, shrink the national debt, and lower taxes to maintain economic growth, an HUD policy that discourages seniors and their heirs from using HECM and reverse mortgages is unwise and counterproductive for all – seniors, federal treasury (taxpayers), and industry.

     Take this incidence. Recently, I was explaining the new arms-length rule and the “clarified” HECM non-recourse policy in Mortgagee Letter 2008-38 to a senior and her daughter when the middle-aged daughter exploded:

“Atare!” she snapped. “This policy amounts to elder abuse [emphasis added] by our federal government! They collect hefty mortgage insurance premiums from seniors. Then, they arbitrarily deny them and their heirs one of the benefits of those expensive premiums?” “It is an outrage! It stinks!!”

     Although it is understandable, the vehemence of her reaction stunned me. It is a reminder of the law of unintended consequences. The well-intentioned authors of the policy never imagined that their policy could be taken as elder abuse.

Full disclosure requires that HECM loan officers, counselors, and marketers explain the implications of ML-08-38. If my encounter is any guide, ML-08-38 will challenge seniors and their families. It may actually bring HUD/FHA some public scrutiny, multiplying opportunities for additional misinformation and misconceptions.

Taxpayers Lose

     There is a wrong-headed assumption implicit in ML-08-38: It is good for taxpayers because it prevents seniors’ heirs and family members from buying the property at market value, waiting a couple of years, and selling it at a profit (the so-called “gaming the system” concerns). It sounds logical and prudent on the surface. ML-08-38 formulators deserve a “Congressional Medal of Prudence.” Well, let’s look deeper.

     Granted, at loan termination, senior’s heirs could refuse to the pay full loan balance demanded by HUD. They could walk away from the property without recourse. Then, the property becomes a HUD real estate owned or REO after a foreclosure process (at taxpayers’ expense). Mind you, HUD cannot sell property at loan balance amount. It may sell it at appraised market value if there is an arms-length buyer. As a HUD REO, taxpayers assume all carrying costs, legal costs, auction costs, etc.

     Absent occupancy, six months after taking over property through the foreclosure process, collateral value can be expected to drop. HUD puts property up for sale through the auction process. At auction, winning bid is 25 percent less than termination market value (TMV). Add carrying costs, foreclosure costs, auction costs and we are looking at close to 40-to-50 percent depreciation from TMV.

     Conversations with experienced REO market participants and managers suggest that the scenario we have sketched here is plausible. They say there is no way HUD can expect to get loan balance value (LBV) [what the authors of ML-08-38 want] or TMV [what heirs/estate want to pay by right] at loan termination. Now, if this is the reality of REO properties (and we assume that the makers of ML-08-38 know this), then it is foolhardy to erect regulatory barriers that prevent heirs from reclaiming family property and heritage by paying TMV. Bottom-line: The foreclosure and carrying costs of such REOs will cause HUD greater losses than if it had allowed the heirs to purchase the property at maturity for the TMV.

     The federal treasury might actually benefit from allowing heirs/estate to buy the property at TMV. Let’s say the TMV is $100,000, and the LBV is $125,000. The heirs/estate acquire property for $100,000. The $25,000 difference is considered ‘forgiven debt,’ fully taxable under existing IRS rules, according to tax experts. If heirs/estate balk at paying LBV and property becomes an HUD REO, HUD would be lucky to get $75,000 or $60,000 at auction before selling and other costs. Since HUD cannot expect to get $125,000 at auction, isn’t it prudent for HUD to take TMV of $100,000 (excluding forgiven-debt taxes to federal treasury) instead of $75,000 or $60,000 auction value? Ironically, with ML-08-38, taxpayers lose money while faithful adherence to pre-ML-08-38 HECM non-recourse rules saves taxpayers money.

     But by far the most disturbing flaw in the arms-length rules in ML-08-38 is its impinging on a core American homeowner right: The right to redeem, the right to reclaim, and the right to take back the family homestead or the family farm from the lender even after foreclosure. For example, Brian Jones shows up to buy the Jones’s family homestead of six generations from HUD. HUD tells Brian to get lost because he is a relation of Judy Jones, Brian’s deceased mother. Meanwhile, Mrs. Jones stipulated in her will that Brian, as her executor, must reclaim property in the interest of family and heritage. There can be a great deal of emotional undercurrents around seniors, HECM, home, heritage, heirs, and relatives. It is doubtful that HUD or any government entity should be interfering in these intimate family issues through misguided regulations. 

The Under-age Spouse Dilemma

     There are scores of outstanding HECM loans where one spouse is under-age (or under 62). Usually, the under-age spouse is a woman. But there may be some men. They have been taken off title to make the HECM loan possible. They were told at application and at closing that they cannot assume the loan when the borrowing spouse dies or leaves the home permanently. Presumably, they understand that they could be on the streets.

     To ensure that their spouses do not end up on the streets and in the expectation that their full non-recourse benefit would kick in, borrowing spouses may have made provisions in a will for the living or community spouse to reclaim the property upon their death or permanent move from the mortgaged home.

     Under ML-08-38, the under-age spouse has two needless regulatory hurdles to scale: the arms-length rules would keep them from buying “their” home back directly; if they are unable to buy it back, the “clarified” non-recourse hits them unfairly with the full loan balance. If they don’t have the full loan balance, they end up on the streets when their titled spouse dies or moves out permanently. With millions of second, third, even fourth marriages out there in baby-boomer-land, how many potential HECM borrowers or their spouses are going to embrace ML-08-38-HECM reverse mortgages if they are fully informed as they must be? How many HECM counselors and originators are going to enjoy sharing the full implications of ML-08-38-HECMs with potential customers and their relatives?

     Now, imagine this: ML-08-38 arms-length rules effectively nullifies the terms of a solemn private contract between the dead and the living, between one generation and another, between husband and wife, between mother and son, or between father and daughter for that matter. To honor his mother’s will and to be faithful to his contractual obligation as her executor, Brian may be compelled to use dishonest means (such as buying the property through unrelated third party or parties who may later sell the property to Brian).

Why should HUD allow anybody but the senior’s family to buy the property? What public purpose does it serve to erect arms-length walls in HECM situations? Why should federal policy deliberately create ethical dilemmas for families in HECM transactions, especially at a time when families may be grieving? Arms-length rules may have a place in HUD’s regulatory schemes, but we doubt that HECM is an appropriate place for them because it is different.

     From the foregoing, it is evident that ML-08-38 is a bad public policy: It costs taxpayers money. It violates a fundamental right of America’s senior homeowners who take HECM reverse mortgages. It turns off seniors and their relatives from a beneficial program that helps seniors and the federal treasury.  It uses a sledgehammer on an imaginary fly, smashing the heart of HECM in the process. Above all, it is a needless assault on old-fashion American fairness and justice. Quash it now and reaffirm full HECM non-recourse policy.

(Please read part one.)




An Assault on Fairness:Quash Mortgagee Letter 08-38, part 1

Sunday, April 18th, 2010

 First posted May 18, 2009

     By shifting HECM non-recourse policy to deny seniors and their heirs a key benefit of their expensive mortgage insurance premiums, by imposing arms-length rules which turn off seniors’ heirs and cost taxpayers money, FHA Mortgagee Letter 2008-38 is an assault not only on fairness but also on a core homeowner right: The right to reclaim the family homestead or the family farm from a creditor without a snag.  It should be repealed forthwith.

     Since my March 18th Op-Ed in Origination News, feedback from senior policy-level people at HUD points unmistakably to misguided assumptions behind the flawed mortgagee letter.

     Part one of this article examines the assumptions in the HUD feedback. Part two looks at why the new arms-length rules in ML-08-38, when fully understood and fully disclosed to consumers, will turn away seniors and their relatives from HECM. It concludes by showing that ML-08-38 is costly to taxpayers and unjust to seniors and their relatives.

     Two days after my Origination News OP-Ed, this email, among others from senior policy-level people at HUD, came in:

     “Yes, well, I would agree that it’s of concern that we’ve closed the one loophole that existed – that is, heirs could BUY the properties from the estate to keep the home, but not pay off the full loan balance.  Other than that, you’re actually offering up some inaccurate statements about the program’s history.  Although many people SAID, “Neither the borrower nor the heirs will ever owe more than the value of the home,” that’s an inaccurate statement on their part and our guidance has never said as much.   Our policy position has always been:  UPON SALE, the borrower or heirs will not owe more than the value . . .    This distinction is VERY clear in our regulations.  So the ML does not represent any change in policy position on this matter.  Therefore, the ML [2008-38] that has been charged is appropriate and consistent with historical policy. AND, the definition of non-recourse IS just as we said it was – so that doesn’t represent a change.

So, the only change presented in this new ML is that that the heirs can’t buy the property from the estate to avoid paying off the full loan balance.”

     Assumption number one: The 20-year-old language and industry-wide understanding in pre-ML08-38 paragraph 1-3C of the HECM Handbook contain a loophole. ML-08-38 is a regulatory loophole plug twenty years after the fact. Again, let’s review the language of chapter 1, paragraph 3C (1-3C) of the HUD HECM Handbook 4235.1 Rev.-1:

     “The HECM is a “non-recourse” loan.  This means that the HECM borrower (or his or her estate) will never [emphasis added] owe more than the loan balance or the value of the property, whichever is less [emphasis added]; and no assets other than the home must be used to repay the debt.”

     Far from being a loophole, the above language expressly affirms and codifies a major benefit for which every HECM borrower is required to pay mortgage insurance premiums. Those premiums cover both crossover risk (protecting lender from property value decline at loan termination) and the recourse risk (protecting borrower from paying more than home’s market value at loan termination).

     The above language was itself a 1994 explanation of non-recourse in the original HUD HECM Handbook 4235.1 of August 24, 1989.  Here is the original non-recourse language (Read: historical policy):

     “The lender’s recovery from the borrower will be limited to the value of the home. There will be no deficiency judgment taken against the borrower or the estate.” [Section 1-12-B, p. 1-6]

     So where is the appropriateness of ML-08-38? Where is the consistency of ML-08-38 with historical policy?  And where is the policy foundation for the formulators of ML-08-38?  There is none.

     And sadly, with ML-08-38, lender-investor (and successors) benefit/right is unimpaired, but borrower-heirs/estate benefit/right is arbitrarily taken away by administrative fiat without an Act of Congress. This is an imbalance. For the party paying the hefty mortgage insurance premiums, this is a grave injustice.

     While I leave you, the reader, to judge the inaccuracies in my March 18th Op-Ed, let’s look at the second premise in the HUD email: public and industry understanding and interpretation of paragraph 1-3C is wrong:

     “Although many people SAID, “Neither the borrower nor the heirs will ever owe more than the value of the home,” that’s an inaccurate statement on their part and our guidance has never said as much.   Our policy position has always been:  UPON SALE, the borrower or heirs will not owe more than the value . . .    This distinction is VERY clear in our regulations.  So the ML does not represent any change in policy position on this matter.” 

     Really! “…that’s an inaccurate statement on their part and our guidance has never said as much.”  Incredible! It is hard to understand these assertions, especially coming from high and responsible policy-level people at HUD. Please go back and re-read paragraph 1-3C of the HECM Handbook as well as the original non-recourse language I referenced above and ask yourself: Is that the language of “many people”? Wasn’t that HUD policy language (guidance) for 20 years until the travesty of ML-08-38?

     Fannie Mae, HECM’s sole investor from program inception in 1989 until 2006 and its dominant buyer today, uses the pre-ML-08-38 language of paragraph 1-3C. Here is a Fannie Mae consumer education Q&A posted in August 2004:

     “Q: Will my heirs owe anything to the mortgage lender if I die?

  A: Upon your death, the loan balance, consisting of payments made to you or on your behalf plus accrued interest, becomes due and payable. Your heirs may repay the loan balance by selling the home or by paying off the HECM loan so that they may keep the home. If the loan balance exceeds the value of your property, your heirs will owe no more than the value of the property. FHA insurance will cover any balance due the lender. No additional financial claims may be made against your heirs or estate.” [emphasis added]

      NRMLA, the industry’s preeminent trade group, has a similar understanding of non-recourse as demonstrated by this consumer safeguard information on its Web site, dating back to May 2005:

     “Asset Protection. The reverse mortgage is a “non-recourse” loan. This means that the amount due can never exceed what the home is worth. Title to the home always remains with the borrower. When the loan becomes due, the lender is repaid the sum of funds advanced plus the accrued interest, but never more than the value of the house. If there is remaining value, it belongs to the homeowner or the estate.” [Note: Since this post (May 18th), NRMLA has revised this wording on its Web site to reflect ML-08-38. However, NRMLA’s revision does not change its historical accuracy, nor has it revised thousands of hard copies in circulation for years.]

     Bank regulators at the Federal Deposit Insurance Corporation (FDIC) underscore the pre-ML-08-38 understanding of HECM non-recourse in the Winter 2008 edition of Supervisory Insights. Here is the wording:

“What happens if the value of the house becomes less than the amount of the loan?”

 “FHA insures the difference. The borrower (or borrower’s heirs) will not be responsible for shortages if the value falls below the outstanding balance. The borrower pays FHA insurance premiums during the term of the loan; these premiums are added to the loan balance. (FDIC’s Supervisory Insights, Vol. 5, Issue 2, Winter 2008, p.16, Table 2).”

     Aspects of a June 29, 2009 General Accountability Office (GAO) report to Congress on reverse mortgages underscore our position that ML-08-38 is a deviation from historical HECM non-recourse policy. Sadly, it also affirmed one of our concerns in my March 18th Origination New Op-Ed: HECM non-recourse marketing claims are now suspect, even “potentially misleading” as the GAO report stated:

     “Never owe more than the value of your home”: The claim is potentially misleading because a borrower or heirs of a borrower would owe the full loan balance—even if it were greater than the value of the house—if the borrower or heirs chose to keep the house when the loan became due. This claim was made by HUD itself in its instructions to approved HECM lenders; however, in December 2008, HUD issued a mortgagee letter to HECM lenders explaining the inaccuracy of this claim [emphasis added]. This was the most common of the potentially misleading statements we found in the marketing materials we reviewed. Of the potentially misleading statements found among the top 12 HECM lenders, variations of this statement were the most prevalent.

      In other words, the absolute HECM non-recourse claim was “made by HUD itself” before it became “inaccurate” almost 20 years later.

     The Fannie Mae and the NRMLA consumer information postings on non-recourse tell us what Fannie Mae and NRMLA believed was the correct interpretation of paragraph 1-3C (of the HECM Handbook 4235.1 Rev.-1) well before HUD published ML-08-38 on December 5, 2008. 

     Moreover, we must keep in mind that HECM borrowers who have or are currently relying on Fannie Mae’s or NRMLA’s online descriptions of the non-recourse limit are paying their full MIPs but are not getting the full non-recourse protection for their heirs that the program’s leading investor and trade organization are describing on their websites.[Note: Since this post, NRMLA has revised its Web site’s non-recourse description to reflect ML-08-38

      They also are not getting the complete non-recourse protection that HUD assumed when calculating the HECM MIP. Below is the key section from the HUD document that describes the HECM model used by HUD to calculate payment amounts and MIP charges. It clearly never anticipated that HECM borrowers or their heirs would be liable for repayments exceeding home values. To the contrary, the MIP was calculated on the assumption that they would NOT be responsible for such repayments. In other words, the HECM MIP was calculated to fit HUD Handbook 4235.1 (and subsequent REV-1) definition. So HECM borrowers have been paying for this protection but not getting it. Here is the key section from the HECM model document:

     “The debt is non-recourse, which means that if the borrower is unable to repay the loan when due, the lender looks only to the value of the mortgaged property for repayment and not to any other assets of the borrower or the borrower’s estate.” (“The FHA Home Equity Conversion Mortgage Insurance Demonstration: A Model to Calculate Borrower Payments and Insurance Risk,”  HUD Office of Policy Development and Research, October 1990, Part II-A, page 3. HUD User # HUD-005802*s)

     Furthermore, in deciding whether to pay loan balance or market value, the operative phrase in paragraph 1-3C of the HECM Handbook is “… whichever is less.”  When there is a crossover event at loan termination, market value is always less. Therefore, it follows that if the borrower’s heirs/estate wants to reclaim the property, a legitimate need in some HECM loan termination cases, they will (and should) pay market value because it is an option for which the borrower has paid a very steep price.

     The final assertions in the feedback that ML-08-38 “… is appropriate and consistent with historical policy” and “the definition of non-recourse IS just as we said it was – so that doesn’t represent a change” strain credulity again because we have every right to expect the best from our federal civil servants.  In other words, if ML-08-38 is not a new rule, why issue it in the first place? Why the conditional recasting of non-recourse?

      The fact is ML-08-38 is a clumsy policy response to a specific policy recommendation from AARP. For years HUD was violating its own non-recourse policy in practice. That is, it was forcing heirs who want to keep the family homestead to pay the full loan balance in breach of the “whichever is less” language of paragraph 1-3C of its program handbook. Enter senior advocate colossus, AARP.

     In a major national report released on December 7, 2007 (“Reverse Mortgages: Niche Product or Mainstream Solution?” pp.111-112), AARP asked HUD to stop the above practice and harmonize its HECM non-recourse practice with its stated policy in paragraph 1-3C of the HECM Handbook. Here is what AARP said in the report (contrast it with assertions in the HUD feedback we are looking at):

     “Some borrowers’ heirs may be in for a rude surprise when they learn that HUD is administering a key provision of the HECM program in a way that differs from what loan officers or counselors may have told them.”

[It quoted paragraph 1-3C verbatim and continued]

     “As actually administered by HUD, however, the non-recourse provision only applies to the estate if it sells the home. If the estate does not do so, it must repay the full amount of the loan balance, even if it exceeds the value of the home. But HUD has never announced that its non-recourse practice differs from the policy in its HECM program handbook or that new regulations or policy letters have altered the handbook’s non-recourse policy.”

     “As a result, many consumers may have been misinformed about this key defining characteristic of the HECM loan [emphasis added]. HUD should resolve the discrepancy between its stated non-recourse policy and its practice by conforming its practice to the definition in the HECM handbook.”

     What is clear from the above is that AARP’s understanding of HECM non-recourse policy is in line with Fannie Mae’s, with NRMLA’s, with industry participants’, and with the public’s understanding of the policy.  Equally clear is that AARP found the inconsistency in HUD’s stated HECM non-recourse policy and actual practice sufficiently troubling to recommend the harmonization of practice with policy. And it is abundantly clear that veracity is absent in HUD’s assertion in ML-08-38 that some program participants were “mistaken” about the policy.

     There is another point we should consider about paragraph 1-3C. The paragraph clearly decrees that “…and no assets other than the home must be used to repay the debt.

     By forcing heirs/estates, in violation of its own rules, to repay the loan balance, “other assets” other than the home’s value are being used to repay the loan. HUD cannot have it both ways for we are a nation of laws and rules. It needs to respect and follow its own rules, it needs to honor and abide by its own contractual obligations if it expects industry participants within its administrative sphere of influence to do the same.

     It is noteworthy that the authors of the 2007 AARP report include Ken Scholen, Donald L. Redfoot, and S. Kathi Brown, individuals with deep knowledge of HECM and policy issues around reverse mortgages and HECM in particular. Ken Scholen is the father of HECM and one of the leading authorities on reverse mortgages in America. For anyone at HUD to suggest that someone such as Ken Scholen is “mistaken” about HECM non-recourse policy when Ken Scholen was the guiding spirit behind HECM is questionable at best and disingenuous at worst.

     From the foregoing, we conclude that the assumptions on which ML-08-38 is based are seriously flawed.  For fairness and for justice for America’s seniors and their heirs/estate, HUD should quash Mortgagee Letter 2008-38.