“The FHA HECM HELOC As A Mortgage Payoff Tool”

By Daniel J. Turner, NMLS#1016716; & Geneva Financial, LLC #42056

Copyright 2020 All rights reserved. Use by written authorization only.

 

 

A common rationale used by Senior Citizens to avoid using a Reverse HELOC is their desire to pay off the mortgage on their home.

This is entirely understandable, and an element of nobility that has been earned by the acts and deeds of those in or entering retirement. They give their word. They KEEP their word. A mortgage is a promise to pay. This is no different. What IS different is the mistaken notion that if they get a reverse there is no value to it in any manner but elimination of a mandatory mortgage payment, and that the debt begins to surge to incredible amounts making the home an exhausted asset at their death.

When it comes to retirement income planning and the strategic use of assets (including equity)? Nothing could get farther away from the facts.

While there are many elements of exposure to loss with a long term mortgage debt (I have reviewed many of these ad nauseum in other recent posts. Feel free to review) the fact is that a reverse mortgage contains few of these exposures and is both immediately and ultimately a much safer loan.

The key question for this article is, “can it also be a more efficient mortgage payoff tool?” And the answer is an emphatic YES!

 

Reverse Mortgage HELOC as a Debt Elimination Tool

Here’s how we can help. This is a simple interest mortgage structured under the “Rule of 78”. Any payments made will reduce the MIP then interest and then principal until the debt is paid off and the loan (and the HELOC) are closed. As the debt is reduced, the amount of accruing interest and MIP expense is also reduced. More money goes to principal pay down, and less goes to interest and MIP as those components are based upon the size of the debt and immediately correct from a day to day basis. Traditional mortgage debt (Rule of 72) does not work that way.

 

Reverse HELOC in Action

Here’s my test case- “Mike & Pauline T.” (real people, fictitious names) obtained a reverse HELOC with me that funded in May-June of 2017 (just several months before the “October 2nd surprise”). The original debt was $145,000.00. They started making voluntary payments equal to their previous mortgage @ $1,500/month (Pauline set up an automatic “Bill Payer” plan with her Bank, and on the 1st of each month, the payment was made automatically. They paid their property taxes and insurance from their retirement income cash flow. The FHA mortgage insurance premium (MIP) rate (that many of you decry as “expensive” but none of you can explain how it works or helps or what it actually provides the borrower for the money paid) for them was 1.20% MIP + 2.75% (margin) + .70% (Index rate (cost of funds) = 4.7-5% per year/last 3 years on the basic sum of $145,000.00=$1,052 of mortgage expense in the first month. They paid a constant $1,500 and reduced the debt by about 500.00/month during the first year.

***Note: We are presently refinancing this to a 3.7% rate, and this will simply allow more principal from each payment to be used to pay down debt, substantially reduce the interest component of the debt, and increase the HELOC on an after tax return of 3.7% in a federally regulated, Federally insured and guaranteed equity accumulation account. Quite literally, a Reverse HELOC converts your home into a federally insured “bank” that you own and control. When one considers the cost of refinancing conventional loans, and that the average person will refi 2-4 more times to get cash out? The Reverse HELOC provision is worth an estimated $20-40,000.00 in unspent equity. There is also the time consideration. Any refi is 3-7 weeks in underwriting delays; Correctly established? The HELOC will wire transfer funds to a Borrower’s account within 2-3 days of the request, or the servicing Agency must pay late fees to the Borrowers. Yes, you read that correctly.

Due to their retirement income being below the new 12% joint income threshold, their tax return has no real use for the mortgage interest. In this case () elimination of this useless expense is but another valid reason to move your Clients out of conventional debt to the FHA HECM HELOC as soon as they walk into your office.

Anyone with experience in mortgage debt or compounding tables understand the incredible advantage of this. I over estimated the loan interest rate used to reduce the actual debt response by about a quarter point (25 bps). Typically, in the first year of a mortgage, the ratio of principal payment to mortgage payment is several years away from the 33% their first payment made. Also, that ratio is approximately 80% interest. It would remain that relative ratio for the first several years. Making the same payment had the effect of making double payments to a conventional loan when you look at the principal sum being applied to the conventional vs reverse. While it is true that the idea of reducing stress on a portfolio is why eliminating a payment is important, it’s just as true the Borrower is doing this voluntarily for reasons beyond their Planners advice. It’s also true they could make a higher or lower or no payment at all, and have varying degrees of outcome. In other words, the Reverse HELOC puts the control of the debt in the hands of the Borrowers, and the outcome is the one they seek. No other loan provides this level of borrower control.

Debt Crushing vs. Crushing Debt

Mike and Pauline have made 38 payments of $1,500/month into their debt and currently stand at $118,000 balance; an 18% reduction of the principal sum in just 38 months. It also bears stating that a reverse interest rate at 5% is well over the rate they left behind in the old loan. No forward (conventional, VA, Farm, etc.) mortgage (even at today’s incredible rates) could possibly compete with this debt pay down rate. At this pace? They will run out of debt in 6 years, which saved them approximately 18 years of payments, and hundreds of thousands in mortgage interest. Every single dollar they pay into the plan becomes an immediately available HELOC asset, and brings in new equity from the first day.

An Unexpected Twist!~

Another twist to this? The actual debt was initially $225,000.00. about 16 months into this, they transferred $80,000 from a passbook account paying ZERO interest to their mortgage. Yes, this paid down the debt dollar for dollar. It also added $80,000 to their credit line, and that was growing (adding new equity for their immediate and future use) at a 5% rate of velocity. Much MUCH better than the ZERO they got in the Bank. So, their Debt balance dropped by $80,000; their HELOC balance jumped $80,000, the amount of earned new equity went up by approximately $4,000 per YEAR (guaranteed!) and their credit line has grown to almost $328,000.00 in just 38 months. ***Their quality of life has not diminished in any measurable amount. In fact, watching their debt fall like a stone has given them a wonderful new perspective and outlook as it never originally occurred to them this could be an outcome of having a mortgage that carries such a damaged reputation.

Life Goes On…

Eventually, Mike will wind down the small business he runs. He will be able to convert some, most or all of that credit line to monthly tax-free equity payout checks guaranteed for life (think SPIA) that will continue to his Wife at the SAME amount federally guaranteed for the rest of HER life. We tend to forget the incredible comfort of those words…”federally guaranteed”. If they both need out-of-home nursing care? The HELOC income payout is suspended and this protects future equity payouts that do nothing but feed the medicaid spend down rules. This would protect the equity for the Heirs. Additionally, (while a SPIA is IRREVOCABLE) the Reverse HELOC Tenure payout is NOT “irrevocable”. They can suspend it, reduce, increase the payout at any time for any good reason. Meanwhile, any unused portion of the HELOC continues to grow by whatever the renewed mortgage interest rate becomes, and may be included into the income payout at a future time to offset inflation or any other reason.

It is also very important to point out this is NOT like a “Bank” 10 year HELOC. This line of credit can never be cancelled, suspended, or reduced in value. In addition to the guaranteed annual rate of growth in the line of credit, the credit line is also Federally guaranteed for the lives of the Borrowers up to 150 YEARS from the death of the youngest Borrower.

Summary

Normally, the drain on portfolio resources and income “flooring” strategies is the new compelling reason for getting a reverse HELOC. That 60-80% of a portfolio dollar goes to paying required mortgage payment interest that can (no longer be deducted) is reason enough for the reverse. But, for those who want to eliminate the debt, there is still no safer and more cost efficient tool than the reverse HELOC in retirement planning, and should be among the very FIRST actions recommended by a dutiful planner.

 

Call me today, and let’s see what I can do to help you also. 808-464-5292

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