Chapter 35 — Exercises
Construction, Renovation, and Reverse: The Loans Most Loan Officers Never Learn
Items marked † have worked solutions in the answers appendix. Every constructed figure in these problems is illustrative — as it is in the chapter — and any program parameter you would quote to a real borrower must be verified at the source. Show your arithmetic. Where a problem asks what you would say, write the words you would actually use.
A. Recall and definitions
1. In one sentence each, define: after-improved value, draw schedule, maturity event, principal limit factor, and closed-end second.
2. A construction lender underwrites four things where a purchase lender underwrites two. Name all four and state, for each, one document the lender would require.
3. † A property is purchased for \$212,000. The HUD-approved consultant's write-up prices the rehabilitation at \$63,000**. Assume a **15%** contingency reserve and **\$3,400 of financeable consultant, permit, inspection, and title-update fees. The appraiser's after-improved value is \$305,000. Assume the FHA maximum mortgage is the lesser of 96.5% of the cost basis or 110% of the after-improved value, and that UFMIP is 1.75% and is financed.
(a) Compute the total rehabilitation escrow. (b) Compute the cost basis. (c) Run both tests and state which controls and why. (d) State the base loan (round down to the dollar), the borrower's minimum required investment, the financed UFMIP, and the total loan amount. (e) Now change one input. The after-improved value comes back at \$248,000 instead. Re-run both tests, state which controls now, and compute how much additional cash the borrower must bring.
4. Which of the following requires a standard 203(k) rather than a limited one, and why? (i) replacing a roof; (ii) moving a load-bearing wall to open a kitchen; (iii) new flooring and paint throughout; (iv) adding a bedroom over the garage; (v) replacing a failed septic system; (vi) installing a stair lift and widening two doorways.
5. Explain the difference between a conditional and an unconditional lien waiver, and say which one you require for the prior draw and which for the current one.
6. State three things that are true of a HECM and are commonly believed to be false, and three things that are false and are commonly believed to be true.
7. † A construction budget of \$288,000 is drawn over a ten-month build at a construction-phase rate of 9.000%, with draws funded at the start of the month shown: month 1, 20%; month 3, 25%; month 5, 20%; month 7, 20%; month 9, 10%; month 10, 5%.
(a) Build the month-by-month table of drawn balance and interest. (b) Compute total construction-period interest. (c) Compute what the borrower would have paid on a fully drawn balance for the same ten months, and express your answer in (b) as a percentage of it. (d) Compute the average drawn balance and show that it produces the same percentage.
8. What is retainage, what is it for, and at which draw does it release?
B. Applied reasoning
9. † A 68-year-old sole borrower owns a home appraising at \$425,000 with an existing mortgage balance of \$118,000. Assume the property value is below the national HECM lending limit, an expected rate of 6.750%, a principal limit factor of 0.359, an origination fee of \$6,000**, an initial MIP of **2% of the maximum claim amount**, and **\$3,900 of third-party closing costs.
(a) Compute the maximum claim amount and the principal limit. (b) Compute total mandatory obligations and the net principal limit. (c) Apply the first-year disbursement limit — the greater of 60% of the principal limit, or mandatory obligations plus 10% of the principal limit — and state how much is available in year one and how much after month twelve. (d) Property charges are \$6,300 a year. The financial assessment requires a fully funded LESA computed at \$81,200. What happens to this file, and what do you tell the borrower?
10. A borrower with a two-close interim construction loan calls you in month nine. The house will be finished in eight weeks. Write the five questions you ask, in order, and say what each one is protecting against.
11. Why is a HELOC counted in HCLTV at the full line rather than the drawn balance? Give the underwriting logic in two sentences, then give the borrower-facing version in one.
12. A borrower wants to be their own general contractor on a construction-to-permanent loan. List four reasons most investors decline, and draft the two sentences you would use to explain the decline without insulting the borrower.
13. † Maturity-event diagnostic. For each of the following, state whether a maturity event has occurred, is at risk of occurring, or has not occurred — and identify which maturity event is in play. Then state what the loan officer or servicer should do.
(a) The borrower has been in a rehabilitation facility for seven months following a hip fracture and expects to return home. (b) The borrower has been in assisted living for fourteen consecutive months. The house is empty and maintained by a nephew. (c) The borrower deeded the home into a revocable living trust for estate planning. (d) The borrower's homeowners insurance lapsed four months ago for non-payment and has not been reinstated. (e) The borrower died. The surviving spouse is 59, was identified at origination as a non-borrowing spouse, still lives in the home, and is current on taxes and insurance. (f) The borrower rented out two bedrooms to boarders and continues to live in the home. (g) The county tax bill has gone unpaid for two consecutive years.
14. Explain, in language a first-time construction borrower will understand, why the appraiser's opinion of value is "subject to completion per plans and specifications" and what the completion inspection is actually checking.
15. † A borrower's home is worth \$298,000**; the first-mortgage balance is **\$241,300. They want \$45,000 for a project.
(a) Compute the current LTV. (b) Build a table of the maximum combined liens and the resulting room at CLTV caps of 80%, 85%, 90%, 95%, and 100%. (c) At which caps does the request fit? (d) The borrower says "but I have \$56,700 of equity." Reconcile that sentence with your table in one paragraph.
16. Name the three effects of a change order on a construction file, and describe the process you would put in place at application to keep change orders from becoming a crisis at completion.
17. Why does the HECM line-of-credit growth feature make a lump-sum disbursement frequently the worst choice for a borrower whose problem is monthly cash flow? Answer in three sentences.
18. Compare the risk profile of a mortgage lender holding a defaulted loan on a finished house with a construction lender holding a defaulted loan on a half-built one. Why is the second worse than the first, and how does the draw process respond to that difference?
C. Calculate it
19. † Same borrower, same score, same term, same lock — only occupancy changes. On a \$260,000 30-year fixed, using a constructed grid of 6.750% primary, 7.250% second home, and 7.750% investment:
(a) Compute the monthly P&I at each occupancy. (b) Compute the monthly and full-term difference between primary and each of the other two. (c) On a \$325,000 purchase at illustrative minimums of 5% / 10% / 15%, compute the down payment at each occupancy and the additional cash the investment buyer needs versus the primary buyer. (d) Write two sentences you would say on the first call to an investor client so that none of this is a surprise on the Loan Estimate.
20. A single-close construction loan carries a permanent rate 0.375% above the two-close market rate, but saves one full set of closing costs estimated at \$6,800. On a \$340,000 permanent loan, roughly how many months of the rate difference does \$6,800 buy? State what additional facts you would need before telling the borrower which is cheaper.
21. A \$412,000 construction budget uses the seven-draw schedule in Figure 35.1's chapter section (15 / 20 / 15 / 15 / 15 / 10 / 10). With a 10% retainage held from each draw:
(a) How much does each of draws 1 through 6 actually fund? (b) How much is released at draw 7, including the accumulated retainage? (c) Confirm the total equals \$412,000.
22. A HECM borrower's property charges are \$5,500 a year. Express that as a monthly figure and as a percentage of a \$2,300 monthly Social Security benefit. Then write the one sentence you would say to make that number real to the borrower.
23. † A borrower needs \$55,000 and is choosing between a HELOC at prime + 1.000 (assume prime is 7.500%) and a closed-end second at 9.750% fixed for 20 years.
(a) Compute the HELOC's interest-only payment on a fully drawn \$55,000. (b) Compute the payment if the full \$55,000 amortizes over 20 years at 8.500% at the end of the draw period, and express the increase in dollars and percent. (c) Compute the closed-end second's payment, total of payments, and total interest. (d) The borrower's need is a single, known, one-time \$55,000. Which do you recommend, and what is the strongest honest argument against your own recommendation?
24. A renovation borrower's contingency reserve is 15% of a \$63,000 repair budget. Two change orders arrive: \$4,200 for unforeseen electrical remediation and \$5,900 for an upgraded kitchen the borrower now wants. How much contingency remains, which change order should have been treated differently from the other, and why?
25. † Loan File extension. Re-run the Linden Street bathroom analysis assuming a current appraised value of **\$402,000** rather than \$385,000, with the balance still \$361,757.88 and the project still \$32,000.
(a) Compute the new LTV and equity. (b) Compute the room under 80%, 90%, and 95% CLTV caps. (c) Does the project fit at any of them? (d) Does a cash-out refinance become available? Show the arithmetic. (e) Even where a product now fits, state the argument for still not doing it, using the 6.625% note rate.
26. A borrower is buying a \$375,000 property. Compute the down payment at 5%, 10%, and 15%, then state which occupancy each corresponds to and which government programs are available at each.
D. Read it, find the problem
27. A draw request package arrives containing: the contractor's request for draw 5, a sworn statement listing six subcontractors, conditional lien waivers for draw 5 from four of the six, an inspection report dated eleven days ago, and no title date-down endorsement. Identify every problem, rank them by severity, and state exactly what you require before funding.
28. A reverse mortgage advertisement states: "Government-insured. No monthly payments. You keep your home. Tax-free money that's already yours." Identify which claims are accurate as stated, which are accurate but materially incomplete, and which are false. Then rewrite the advertisement so that every claim survives scrutiny.
29. † Build a draw schedule for a \$255,000 construction budget using six draws, with stages you specify, percentages that sum to 100%, and a cumulative column. Then state which single draw you would most want to inspect personally and why.
30. A HECM term sheet shows a principal limit of \$168,000, mandatory obligations of \$149,300, and "available to borrower: \$18,700." A colleague quotes the borrower "\$18,700 at closing." Identify the error and compute what is actually available in the first twelve months, assuming the usual greater-of test.
E. Write it
31. † A past client emails: "Rates are lower than when we closed. Should we refinance and pull out \$40,000 to redo the kitchen?" You do not yet know their balance, value, or current rate. Write the reply — under two hundred words — that asks for exactly what you need, commits to a timeline, and does not pre-sell a product.
32. Write the disclosure paragraph you would include in a construction-to-permanent pre-application summary explaining, in plain language, that the borrower will pay interest during construction on the drawn balance and how that interest will be funded. No jargon, no more than 150 words.
33. Write the memo to your processor establishing the standing draw-package checklist for construction files: what must be in every package, what stops a funding, and who calls whom.
34. Write the script you would use to open a conversation with a 74-year-old inquirer who has been told by a friend that a reverse mortgage means "the bank owns your house." Your goal is neither to sell nor to dissuade. It is to establish what they actually need and whether they can sustain the property charges.
F. NMLS-style items
35. Which of the following is not a maturity event on a HECM? (A) the borrower fails to pay property taxes (B) the borrower is absent from the property for more than 12 consecutive months due to illness (C) the loan balance exceeds the appraised value of the property (D) the last surviving borrower dies
36. A borrower needs to move a load-bearing wall and add a bathroom. Which product applies? (A) limited 203(k), because the dollar amount is under the cap (B) standard 203(k), which requires a HUD-approved consultant (C) FHA 203(b) with an escrow holdback (D) a HECM for Purchase
37. A HECM principal limit factor increases when: (A) the borrower is younger and the expected rate is higher (B) the borrower is older and the expected rate is lower (C) the property value is higher (D) the borrower selects a line of credit rather than tenure payments
38. Which occupancy type is eligible for FHA, VA, and USDA financing? (A) primary residence only (B) primary residence and second home (C) primary residence and investment property (D) all three
39. On a construction-to-permanent loan, the appraised value used to size the loan is: (A) the value of the lot as of the application date (B) the sum of the lot cost and the construction budget (C) an opinion of value subject to completion per plans and specifications (D) the value at the certificate of occupancy, determined after closing
40. A borrower has a \$60,000 HELOC with \$5,000 outstanding and is applying for a new first mortgage. For HCLTV purposes, the underwriter counts: (A) \$5,000, the outstanding balance (B) \$60,000, the full line (C) \$32,500, the average of the two (D) nothing, because a HELOC is subordinate