As seniors see their 401K savings shrink and the value of their homes plummet, the prospect of taking out a reverse mortgage seems like an option that’s almost too good to be true.
But ‘too good to be true’ is often a sign that something is amiss. In a nutshell, a reverse mortgage enables someone at least 62 years old to pay off an existing mortgage and tap into the remaining equity, either with a lump sum payoff, a line of credit or monthly checks, and it’s all tax-free.
If seniors have already paid off their mortgage, they, too, can qualify for a reverse mortgage and begin drawing down their equity.
With a reverse mortgage, you continue to own your home and live in it indefinitely, with no monthly mortgage payments. But some experts say taking out a reverse mortgage is like entering a minefield — you’d better know where you’re going.
In any case, experts warn, a reverse mortgage could leave seniors without a nest egg years ahead when they might be in need of assisted living or a nursing home.
At least one bill was introduced at the Arizona Legislature this year adding regulations to reverse mortgages, but because the overwhelming focus is on the state budget, action on the measure is highly unlikely.
AARP does not endorse any specific product or lender, but cautions that the up-front costs are significant. Bronwyn Belling, a reverse mortgage specialist with the AARP Foundation, says, “It’s a personal decision whether a reverse mortgage is right for you, but it’s a very expensive way to borrow money.”
While surveys indicate that about 90 percent of seniors prefer to remain in their homes as they age, a reverse mortgage, formally known as a Home Equity Conversion Mortgage (HECM), doesn’t make sense if you only intend to remain there for a couple of years. The longer you stay in your home, the longer you have to spread out the costs, which include an origination fee, mortgage insurance, title insurance and myriad other fees associated with regular mortgages.
Most borrowers might be concerned about the up-front fees, but the highest cost associated with a reverse mortgage is interest. However, interest payments are added onto the principal of the loan, and no payments are due until the borrower leaves the property. Add a monthly service fee of $30 to $35, and you have what most financial experts consider an expensive transaction.
Last November, the U.S. Department of Housing and Urban Development formally took steps to make reverse mortgages more appealing by increasing the maximum Federal Housing Administration-insured loan amount to $417,000, and capping the origination fee at $6,000.
Previously, the top loan amount was $362,790 for the most expensive homes, and the origination fee could have hit $12,000. Both changes were part of the Housing & Economic Recovery Act of 2008.
Peter Bell, president of the National Reverse Mortgage Lenders Association, hailed the moves: “By implementing these new provisions, HUD has improved financial options for senior homeowners during a critical time. The new loan limit and other provisions will allow seniors to receive more benefit at a lower origination cost to meet their retirement needs.”
No mortgage payments are due during the life of the loan, and borrowers can spend the money however they wish, including for home repairs, medical costs or a vacation. The loan becomes repayable when the borrower sells the home or permanently moves out, and the repayment amount cannot exceed the value of the home.
Felecia Rotellini, superintendent of the Arizona Department of Financial Institutions, describes reverse mortgages as “a good product for the right kind of borrower.”
FHA-insured reverse mortgages, which account for 98 percent of the market, are well regulated with strict underwriting guidelines and are typically offered by banks, credit unions and licensed mortgage brokers.
To help protect consumers, applicants must undergo a counseling session describing some of the pitfalls.
The counseling session can cost up to $125, take about an hour in person or by phone, and the cost can be rolled into the loan.
John Pettet, senior mortgage examiner for the state Financial Institutions agency, says a downside is that if a homeowner becomes in need of nursing home care and the equity in the home is gone, there might not be a nest egg to pay for those costs. And if a borrower moves out of the home for more than six months, the reverse mortgage reverts to a 30-year fixed mortgage with payments that might be too steep for an aging individual or couple.
“If you end up in a nursing home, you can’t rent out your home,” Pettet says. “Another drawback is the negative feedback from the children because you’re spending the equity. And another negative is that you lose the tax write-off for interest paid on a mortgage.
“It’s a great program if you’re at least 62, ready to retire and plan on staying there for a while, and if it’s an FHA loan,” Pettet says. “Monthly checks average $350 to $550, which comes in handy for seniors.”
But Pettet says, “There are plenty of minefields around it.” He cautions that if a conventional type reverse mortgage, as opposed to an FHA loan, is sought from a private firm, “You’re on your own. Conventional products aren’t regulated enough to make me happy.”
Jill Hoogendyk, president of the Arizona Mortgage Lenders Association (formerly the Arizona Mortgage Bankers Association), says conventional reverse mortgages offered by private individuals are completely unregulated.
“These private individuals make up their own rules,” Hoogendyk says.
“They can solicit seniors — and they do,” she said. “Unlike institutional reverse mortgages, these products have such things as a balloon payment, equity sharing, which means the lender actually owns a piece of the house, and an acceleration of how much you owe every year. Because they are private individuals, they can do whatever they want. It’s legal, because they’re not regulated, but it’s not ethical.”
Rep. Bill Konopnicki, a Republican from Safford, has introduced H2513, which is designed to add regulations to the reverse-mortgage market.
“The reason this bill is necessary is that most people at a certain age who were thinking about retiring have come to the conclusion they cannot recover the losses in their 401K,” Konopnicki says. “One of the things most have as an asset is their home, and it will probably recover some.
Most reverse mortgages are federally insured and are regulated. The intent of this bill was to take a look at a growing market of unregulated reverse mortgages.”
But that’s not the way Tanya Wheeless, president and CEO of the Arizona Bankers Association, sees H2513. It regulates both types of reverse mortgages — federally regulated HUD products and proprietary products offered by private individuals that are outside HUD’s regulatory umbrella.
“We don’t have a problem with regulation, especially where there is an opportunity to take advantage of individuals,” Wheeless says. “Our concern is that it regulated one product (FHA-insured mortgages) to get at the other (unregulated mortgages). It lays new Arizona regulations on top of existing federal regulations. If the bill were limited to non-regulated loans, we would not have a concern with it. We think it would be positive. We cannot support duplicative regulation. On proprietary reverse mortgage
s, it’s not a bad idea, but the bill, the way it stands, goes way beyond that.”
Konopnicki says his intent is “not to limit reverse mortgages, but to make sure people understood what they were getting or not getting.”
“You need to know how much you’re going to get, how long it’s good for, and what the consequences of other decisions may be,” he says.
He has heard examples of people who, after 10 or 15 years, had given up much of their equity. “There’s no money and no place to go,” Konopnicki says. “Their 401K is gone, and there are not a whole lot of choices.”
The lawmaker, working with the Attorney General’s Office on his legislation, says he wants to make sure the law has some teeth so prosecutors can go after perpetrators of fraud and abuse.
“We want to put the unscrupulous ones out of business,” he says. “It’s similar to what we saw with the mortgage industry and the subprime loans. We don’t want to have to deal with that again on reverse mortgages.”
Regarding the Bankers Association’s opposition, citing double-regulation, Konopnicki concedes, “I believe one could come to that conclusion when looking at the current bill. We have agreed that the bill will not move forward with any possible interpretation of that. We don’t need to have double regulations on the HUD mortgages.”
Recognizing that the bill probably won’t move through the process this session, Konopnicki says it will be back next year. “If people know what they’re doing and they want to do it, bless ’em,” he says.
Although Wheeless says she is not aware of any abuses, she notes: “It’s like many things. This product has a very good purpose and if used properly can help a lot of people. But with access to probably their greatest asset — the equity in their house, I’m sure you could find a bad actor.”
The state Financial Institutions agency reports that it received 40 reverse mortgage complaints during a recent 18-month period. But a spokesman says by far the majority came from people who went shopping for a reverse mortgage and were sold a subprime loan, so those complaints really weren’t about reverse mortgages.
With the economy still in a funk, Hoogendyk of the Mortgage Lenders Association says reverse mortgages have become more attractive since HUD increased the loan limit and capped the origination fees. Mortgage bankers report a 12-percent increase in reverse mortgages so far this year, she says.
Many seniors have paid off their existing mortgages or have built up a lot of equity, making them potential customers for a reverse mortgage.
“What’s kicking in is that seniors are taking a hit in their income stream because of the equity market, the stock market,” Hoogendyk says. “They’re looking for some way to complement that income stream. Even if the only thing they could do with a reverse mortgage is pay off their existing mortgage and not have payments anymore, even if it’s not enough to get them a monthly income, it helps their situation.”
Rotellini of Financial Institutions has seen an increase in reverse mortgages. “The FHA has filled a lot of voids, typically with the lack of subprime products. And from an investor point of view, there really is no upside-down side. The only problem there is if they over-estimate the value of the property. It’s best to use an FHA appraiser. ”
AARP’s Belling says the economic downturn has affected retirement plans, which might encourage seniors to look more closely at a reverse mortgage. “We can’t control interest rates and margins, which are creeping up as well, but we’re still concerned about the costs and making sure people understand the importance of wrapping their arms around all these costs and understanding them.”
About 80 percent of people who are accepted for a reverse mortgage choose the line-of-credit option, rather than a lump sum payment or monthly checks, according to AARP.
“That’s good news and bad news,” Belling says. “It gives you the most flexibility. You leave it alone, and don’t spend it when you don’t need it. But you can be a target of financial abuse, predator lenders, and investment companies that encourage you to buy something you might not need, like an annuity, or long-term insurance that isn’t necessary. That’s the risk with a credit line.”
An advantage is that if you don’t use the money, the available pot grows over time. It looks like it’s earning interest, she says, but it isn’t. “It’s as if you waited a year to take out a loan, making you eligible to borrow more money.”
Belling says the age of seniors getting into a reverse mortgage is coming down. The average age several years ago was 76, but in 2007 it was about 73. “The reason,” she says, “is that boomers are reaching the age where this is attractive to them, and there is more public awareness about this offering. Younger people (who are at least 62) are taking advantage as it becomes more of a household word.”
Belling adds words of caution, though, saying you should only take out a reverse mortgage as a last resort.
“Look at your own personal circumstances,” she says. “They probably heard about it from a celebrity on TV or radio. Their needs might be better served by a local home-repair program or prescription-drug assistance from Medicare. Part of the process of applying for a reverse mortgage is to meet with an independent counselor who works for a nonprofit or a public agency. Their role is to tell about other local programs and services, so if you can’t manage your property taxes, there may be a local program to help you do that at much less expense than a reverse mortgage.”
Basically, Belling says, “Shop around. Learn about alternatives.”
Rotellini notes that the upfront costs are steep, and recommends an FHA reverse mortgage because it provides for a flat fee. “That keeps a loan officer from gouging borrowers,” she says. “An FHA product guarantees safeguards and full disclosure.”
Her advice to anyone considering a reverse mortgage: “It has to be the right person at a certain age who wants to stay in the property, and needs an increase in monthly income. But they have to understand that they’re giving up their nest egg.”?
5 questions to ask before considering a reverse mortgage
1. Do you really need a reverse mortgage?
Why are you interested in these loans? What would you do with the money you would get from one? Are the needs you intend to meet really worth the high total cost of these loans? If you want to take a dream vacation, a reverse mortgage is a very expensive way to pay for it. Investing the money from these loans is an especially bad idea, because the loan is highly likely to cost more than you could safely earn. If anyone is trying to sell you something and recommending you use a reverse mortgage to pay for it, that’s generally a good sign that you don’t need it and shouldn’t be buying it.
2. Can you afford a reverse mortgage?
These loans are very expensive, and the amount you owe grows larger every month. The younger you are when you take out a reverse mortgage, the more the compound interest will grow, and the more you will owe. On the other hand, due to high up-front costs, these loans can be especially costly if you sell and move just a few years after taking one out.
3. Can you afford to start using up your home equity now?
The more you use now, the less you will have later when you may need it more, for example, to pay for emergencies, health care needs, or everyday living expenses. This is especially true if your needs suddenly grow or
your income does not keep pace with inflation. You may also need your equity to pay for future home repairs or a move to assisted living. If you are not facing a financial emergency now, then consider postponing a reverse mortgage. Homeowners who decide to wait have “a reasonable expectation of securing a better product at a lower cost in the not-too-distant future,” according to a report by the Fidelity Research Institute.
4. Do you have less-costly options?
Do you have other financial resources that you could use instead of taking out a loan? If you don’t, and if you could easily make the monthly repayments on a home equity loan or home equity line-of-credit, these alternatives are much less costly than a reverse mortgage. Many state and local governments offer very low-cost loans for paying your property taxes or making home repairs. Have you seriously looked into the costs and benefits of selling your home and moving to a less expensive one?
5. Do you fully understand how these loans work?
Reverse mortgages are quite different from any other loans, and the risks to borrowers are unique. Before considering one, you need to do your homework carefully and thoroughly.
Source: AARP Foundation
Who can qualify for a UD reverse mortgage?
All borrowers must be 62 years of age or older and must occupy the home as their principal residence. There are no credit, income or health requirements, and Social Security and Medicare are not affected.
Why get a reverse mortgage?
• Enjoy retirement
• Remain independent
• Stay in your home
• No monthly mortgage payments
• Tax-free money
• No restrictions on how the money is spent
Source: U.S. Department of
Housing and Urban Development