By Joseph Kelly and Michael McCully
New View Advisors
Financial Assessment is still working, only more so. The Federal Housing Administration’s new policy of requiring financial assessment (“FA”) of the borrower’s ability to pay has cut tax and insurance defaults by nearly three-quarters and serious defaults by almost two-thirds. These results are even better than the encouraging data we shared this past February.
The FHA’s objective for the new FA regulation was to reduce the persistent defaults, especially tax-and-insurance (“T&I”) defaults, plaguing the Home Equity Conversion Mortgage program. As the FHA put it, “… an increasing number of tax and hazard insurance defaults by mortgagors led the FHA to establish … a requirement for a Financial Assessment of a potential mortgagor’s financial capacity and willingness to comply with mortgage provisions.”
T&I and other defaults can lead to foreclosure and result in significant losses to the FHA’s insurance fund, issuers of Home Equity Conversion Mortgage-backed securities (HMBS), and other HECM investors. Defaults rose steadily during the financial crisis and have remained a thorn in the side of the program.
Financial assessment requirements became effective for HECMs with case numbers issued on or after April 27, 2015. Since then, HECM lenders must make a determination of the borrower’s ability to meet their obligations, including property taxes and home insurance. Because it’s been more than two years since Financial Assessment began, we can measure the effect of this policy by comparing the default rates of loans originated before and after the FA rule was implemented.
With this in mind, New View Advisors looked at a data set of just under 100,000 HECM loans, comparing loans originated in the immediate post-FA period from July 2015 through March 2017, to loans originated in the 21-month pre-FA period from July 2013 through March 2015. After July 2015, there were few — if any — loans originated under the pre-FA guidelines. (As the guidelines took effect in April 2015, the second quarter of 2015 includes a mix of FA and pre-FA loans.)
The data show a very strong reduction in T&I defaults in the post-FA period. After 21 months, the pre-FA data set shows a T&I default rate of 1.9%, and an overall serious default rate of 2.5%. By contrast, the post-FA data set shows a T&I default rate of only 0.5%, and an overall serious default rate of 0.9%. For the purposes of this analysis, we define serious defaults as T&I defaults plus foreclosures and other loans with “Called Due” status.
Given this result, we once again give the financial assessment concept high marks for reducing defaults. However, this is another midterm grade that needs to be tested further as the post-FA portfolio ages.
Average loan size and subsequent draws are also higher for the post-FA market: For loans currently aged 21 months or less, average balances are about 10% higher than the comparable HECM loan population as of March 2015. This is not surprising, since buyers of more expensive homes generally have better credit and ability to pay. In addition, the FHA now limits the amount that borrowers can receive in the first 12 months.
As recent months of HMBS issuance show, subsequent draws and HMBS “tail” issuance are a driving force in the industry’s profits. Dollars loaned — and not just at initial loan funding — is the true metric by which the industry should measure growth.
New View Advisors compiled this data from publicly available Ginnie Mae data as well as private sources.
New View Advisors is a strategic advisory firm for Ginnie Mae HMBS issuers, HECM originators, and institutional investors that participate (or are looking to participate) in the reverse mortgage industry.
