Actuarial Review of the Federal Housing Administration Mutual Mortgage Insurance Fund HECM Loans For Fiscal Year 2013 December 11, 2013 Prepared for U.S. Department of Housing and Urban Development By Integrated Financial Engineering, Inc. Table of Contents Executive Summary ............................................................................................................. i I. Introduction .................................................................................................................1 II. Summary of Findings ................................................................................................15 III. Current Status of HECM in MMI Fund ....................................................................23 IV. Characteristics of the MMI HECM Books of Business ............................................27 V. HECM Performance under Alternative Scenarios ....................................................35 VI. Summary of Methodology ........................................................................................43 VII. Qualifications and Limitations ..................................................................................47 Appendix A: HECM Base Termination Model Appendix B: HECM Loan Performance Projections Appendix C: HECM Cash Flow Analysis Appendix D: HECM Tax and Insurance Default Model Appendix E: HECM Demand Model Appendix F: Stochastic Processes of Economic Variables References This Page Left Blank Intentionally FY 2013 HECM Actuarial Review Executive Summary Executive Summary The U.S. Department of Housing and Urban Development (HUD), Federal Housing Administration (FHA), provides reverse mortgage insurance through the Home Equity Conversion Mortgage (HECM) program. HECMs enable senior homeowners to obtain additional income by accessing the equity in their homes. The program began as a pilot program in 1989 and became permanent in 1998. Between 2003 and 2008, the number of HECM endorsements grew because of increasingly widespread product knowledge, lower interest rates, higher home values, and higher FHA loan limits. Prior to fiscal year (FY) 2009, the HECM program was part of the General Insurance (GI) Fund. The Federal Housing Administration Modernization Act within the Housing and Economic Recovery Act of 2008 (HERA)1 moved all new HECM program endorsements into the Mutual Mortgage Insurance (MMI) Fund effective in FY 2009. The Reverse Mortgage Stabilization Act of 2013 eliminated the HECM Standard and HECM Saver programs and is replacing them starting in FY 2014 with HECMs that will reduce the initial and total allowable drawdowns to strengthen the financial condition of the program.2 The National Housing Act requires an independent annual actuarial study of FHA’s MMI Fund.3 Accordingly, an actuarial review must be conducted on HECM loans within the MMI Fund. This document reports the estimated economic values of the FY 2013 through FY 2020 MMI HECM portfolios. A fiscal year’s MMI HECM portfolio is defined as the set of loans that survive to the end of the fiscal year and were endorsed in FY 2009 or later. In addition to the initial capital reserve, the economic value of the portfolio depends on the net present value of the future cash flows from the surviving portfolio of loans existing at the start of the valuation forecast (the end of the fiscal year under review). Our projections indicate that, as of the end of FY 2013, the HECM portion of the MMI fund has an expected economic value of $6,541 million. The economic value includes a transfer of $4,263 million from the MMI Capital Account and a $1,686 million mandatory appropriation. Projected long-term improvements in house price growth rates contribute to a steadily increasing economic value of the MMI HECM portfolio from FY 2013 through FY 2020. A. Status of the MMI HECM Portfolio In order to assess the adequacy of the current and future capital resources to meet estimated future net liabilities, we analyzed all HECM historical terminations and associated recoveries using loan-level HECM data reported by FHA through March 30, 2013. We developed loan- level termination and recovery models to estimate the relationship between HECM terminations and recoveries using various economic and loan-specific factors. We then estimated the future loan performance of the FY 2013 to FY 2020 MMI HECM portfolios using various assumptions, 1 HERA was passed by the United States Congress on July 24, 2008 and signed by President George W. Bush on July 30, 2008. 2 The Reverse Mortgage Stabilization Act of 2013 was passed by the Senate on July 30, 2013 and signed by President Obama into law H.R. 2167 on August 9, 2013. This law amends the National Housing Act to empower the HUD Secretary to make changes to the Home Equity Conversion Mortgage (HECM) program via Mortgagee Letters (MLs). 3 HERA moved the requirement from the 1990 National Affordable Housing Act (NAHA) to the Federal Housing Administration operations within the National Housing Act, 12 USC 1708(a)(4). IFE Group i FY 2013 HECM Actuarial Review Executive Summary including macroeconomic forecasts based on stochastic simulation of 100 possible future economic scenarios and the expected HECM portfolio characteristics provided by FHA. Based on our evaluation of the HECM loans in the FY 2013 portfolio, we estimated the economic value of the HECM portion of the MMI fund to be $6,541 million. We estimated that the economic value of the HECM portfolio will subsequently improve over time with the addition of new endorsements. Policy changes and forecasted improvement of future economic condition are predicted to increase the estimated value of future endorsements as well as the existing books of business.4 The estimated economic value of the fund as of the end of FY 2020 is $15,378 million. The maximum claim amount (MCA) of a HECM loan serves as cap on the amount of insurance claims that FHA will pay the lender. The MCA is defined as the minimum of the appraised value and FHA’s HECM loan limit at the time of origination. The insurance-in-force (IIF) is expressed as the sum of total MCAs over the active portfolio. As new endorsements are added to the portfolio, projected HECM IIF increases from $87,672 million in FY 2013 to $161,479 million in FY 2020. Exhibit ES-1 provides the baseline economic values of the HECM portfolio, IIF and new endorsements for FY 2013 through FY 2020. Exhibit ES-1. Economic Value, Insurance-in-Force, and Endorsements for FY 2013-FY 2020 ($ Million) Economic Investment Fiscal Economic Insurance in Volume of New Value of Each Earnings on Year* Value Force** Endorsements New Book of Fund Balance Business 2013 $6,541 $87,672 $14,331 $395 2014 7,523 96,480 13,850 969 13 2015 8,551 103,850 16,369 998 30 2016 9,643 115,229 17,806 1,002 91 2017 10,870 126,580 18,621 1,044 183 2018 12,260 137,810 19,665 1,106 284 2019 13,765 149,365 20,937 1,150 355 2020 15,378 161,479 22,317 1,195 419 *All values, except the volume of new endorsements, are expressed as of the end of the fiscal year. **Insurance-in-force is estimated as the sum of the MCAs of the remaining insured loans. B. Sources of Change in the Status of the Fund The economic value of the HECM portfolio in the MMI fund increased by $9,340 million from the estimated FY 2012 economic value of negative $2,799 million estimated in the FY 2012 review. This change was primarily driven by three main factors5: 4 Details of the policy changes are provided in Section I of the review. 5 Only major driving factors are listed here. Details of the decomposition of changes of economic value are in Section II of this report. IFE Group ii