Actuarial Review of the Federal Housing Administration Mutual Mortgage Insurance Fund HECM Loans For Fiscal Year 2016 November 15, 2016 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 .......................................................................................17 III. Current Status of HECM in MMI Fund ...........................................................25 IV. Characteristics of the MMI HECM Books of Business ...................................29 V. HECM Performance under Alternative Scenarios ...........................................41 VI. Summary of Methodology ...............................................................................53 VII. Qualifications and Limitations .........................................................................57 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 Volume Model Appendix F. Stochastic Processes of Economic Variables References FY 2016 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 awareness, 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. At the beginning of 2014, the HECM Standard and HECM Saver programs were replaced with HECMs that reduced the initial and total allowable drawdowns in order to strengthen the financial condition of the program.2 Also in 2014, FHA allowed a Non-Borrowing Spouse to be younger than 623 years of age and implemented corresponding principal limit factors for those younger ages.4 In 2015, FHA introduced the Life Expectancy Set-Aside (LESA) Growth Rate and related requirements to address tax and insurance defaults; additional guidance on HECM “Due and Payable” policies and timing requirements; and permissible loss mitigation options when property charges are not paid. The National Housing Act requires an independent annual actuarial study of FHA’s MMI Fund.5 Accordingly, an actuarial review must be conducted on HECM loans within the MMI Fund. This document reports the estimated economic values of the FY 2016 through FY 2023 MMI HECM portfolios. A fiscal year’s MMI HECM portfolio is defined as the loans that survive to the end of the fiscal year and were endorsed in FY 2009 or later. In addition to the initial capital resources, 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). IFE Group’s projections indicate that, as of the end of FY 2016, the HECM portion of the MMI fund has an economic value of negative $7,721 million. Two primary reasons for this decrease from last year’s estimate of positive $6,778 million are the adverse impacts of incorporating deeper house price sale discounts and additional property disposition expenses, both of which were 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 Mortgagee Letter 2013-27, September 3, 2013: Changes to the Home Equity Conversion Mortgage Program Requirements. 3 Mortgage Letter 2014-07, April 25th, 2014: Home Equity Conversion Mortgage (HECM) Program: Non-Borrowing Spouse. 4 Principal Limit Factors following Mortgagee Letter 2014-12 provided PLFs for a non-borrowing spouse and also revised PLFs for borrowers 62 and above. 5 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 2016 HECM Actuarial Review Executive Summary identified with new datasets provided by FHA this year. These two changes are responsible for a decrease of $8,706 million to the reported economic value of the MMI HECM Fund. 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, IFE Group analyzed all HECM historical terminations and associated recoveries using loan-level HECM performance data maintained by FHA through March 31, 2016. We updated loan-level Tax & Insurance termination and recovery models using various economic and loan-specific factors. The base mortality, refinance, and mobility termination models remain the same as those used in the FY 2015 Review because the Social Security Administration no longer supplies FHA with the dates of death of HECM borrowers. We then estimated the future loan performance of the FY 2016 through FY 2023 MMI HECM portfolios using various assumptions, including macroeconomic forecasts by Moody’s Analytics, 100 simulated possible future economic scenarios, and projected HECM portfolio characteristics. Based on our evaluation of the HECM loans in the FY 2016 portfolio, we estimated the economic value of the HECM Fund to be negative $7,721 million. We also estimated that the economic value of the HECM portfolio will subsequently decrease over time, as future books of business would continue to bring negative values. The newly available information on house price sale discounts and property disposition expenses negatively impacts the reported financial strength of future endorsements as well as the existing books of business.6 The economic value of the HECM Fund as of the end of FY 2023 is estimated to be negative $12,537 million. The maximum claim amount (MCA) of a HECM loan serves as the cap on the amount of insurance claims that FHA will pay the lender for unassigned loans. 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 the MCAs of the active portfolio. As new endorsements are added to the portfolio, projected HECM IIF increases from $111,919 million in FY 2016 to $212,560 million in FY 2023. Exhibit ES-1 provides the projected baseline economic values, IIF, and new endorsements of the HECM Fund for FY 2016 through FY 2023. 6 Details of these items are provided in Section II of this Review. IFE Group ii