HECM Example: What Does a Reverse Mortgage Cost?

Due in large part to FHA insurance premiums, FHA insured Home Equity Conversion Mortgages (HECM loans) have high financed closing costs, but it is the FHA insurance that enables lenders to offer low interest rates that can offset closing costs and other fees over time. So what does a HECM really cost?

To assist in evaluating the cost of a reverse mortgage, the Federal “Truth in Lending Act” requires lenders to provide reverse mortgage borrowers with a Total Annual Loan Cost Rate (TALC) disclosure that estimates the total cost of the loan, including interest, closing costs and all other fees, as a percent over time.

Unlike the Truth in Lending Act Annual Percentage Rate (APR) in traditional mortgages, reverse mortgage TALC rates include ALL costs (closing costs, FHA insurance premiums, interest, and service fees) expressed as a percent per year. Also unlike the APR, which is a single number, TALC rates are displayed on a table and estimate the total cost of the loan at various points in time.

The above TALC table prepared May 5, 2008, projects the total cost of the HECM loan described below to be 8.90% if the loan were paid off in 2 years, dropping to 5.72% after 6 years to 4.92% after 12 years, and to 4.67% after 17 years. TALC projections are estimates and actual costs may differ.

(With regard to home appreciation, TALC rates are the same for all levels of home appreciation unless at some point the loan balance were projected to exceed the home value, at which point the TALC rate would drop. In the 0% appreciation line in the above table, where the house does not appreciate at all over time, the TALC rate drops to 4.08% after 12 years and to 2.86% after 17 years, because should the loan balance exceed the home value, costs accrued after that point would not have to be paid back when the house was sold.).

The above TALC table is based on the following example, a HECM “Monthly Adjustable 150” (150 basis points over one year treasury index) with a fully indexed initial interest rate of 3.38%; borrower age 74 in a $200,000 Lehigh Valley home eliminating a $600.00 mortgage payment by paying off a $100,000 mortgage.

The HECM 150 interest rate has averaged 1.35% below prime over the last 15 years, based on Federal Reserve website historical rates. The current 3.38% rate is 1.62% below the prime rate of 5.0%.

In summary, the HECM can work well when used for its intended purpose, as a long term solution, as low interest rates offset closing costs and other fees over time. The longer you have a HECM, the lower the projected cost. The Federal Truth in Lending Act requires lenders to provide borrowers with a Total Annual Loan Cost (TALC) disclosure. The TALC provides an estimate of total cost of the loan over time expressed as a percent. Potential borrowers should review the TALC disclosure associated with the reverse mortgage loan they are considering.

John L. Krajsa, Jr., Esq., President
AFC Reverse Mortgage, Inc.
May 5, 2008