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It feels like everything costs more these days—and some homeowners are looking for ways to increase cash flow without invading retirement assets. One way to do that? Reverse mortgages. Reverse mortgages are a creature of federal law. As part of the Housing and Community Development Act of 1987, the Federal Housing Administration (FHA) became responsible for insuring reverse mortgages. The program was initially designed to “meet the special needs of elderly homeowners by reducing the effect of the economic hardship …..Continue reading…
Source: Forbes
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Critics:
A reverse mortgage is a mortgage loan, usually secured by a residential property, that enables the borrower to access the unencumbered value of the property. The loans are typically promoted to older homeowners and typically do not require monthly mortgage payments. Borrowers are still responsible for property taxes or homeowner’s insurance. Reverse mortgages allow older people to immediately access the equity they have built up in their homes, and defer payment of the loan until they die, sell, or move out of the home.
Because there are no required mortgage payments on a reverse mortgage, the interest is added to the loan balance each month. The rising loan balance can eventually exceed the value of the home, particularly in times of declining home values or if the borrower continues to live in the home for many years. However, the borrower (or the borrower’s estate) is generally not required to repay any additional loan balance in excess of the value of the home.
Regulators and academics have given mixed commentary on the reverse mortgage market. Some economists argue that reverse mortgages may benefit the elderly by smoothing out their income and consumption patterns over time. However, regulatory authorities, such as the Consumer Financial Protection Bureau, argue that reverse mortgages are “complex products and difficult for consumers to understand”, especially in light of “misleading advertising”, low-quality counseling, and “risk of fraud and other scams”.
Moreover, the Bureau claims that many consumers do not use reverse mortgages for the positive, consumption-smoothing purposes advanced by economists. In Canada, the borrower must seek independent legal advice before being approved for a reverse mortgage. In the United States, reverse mortgage borrowers, similarly to other mortgage borrowers, can face foreclosure if they do not maintain their homes or keep up to date on homeowner’s insurance and property taxes.
Reverse mortgages are available in Australia. Under the Responsible Lending Laws, the National Consumer Credit Protection Act was amended in 2012 to incorporate a high level of regulation for reverse mortgage. Reverse mortgages are also regulated by the Australian Securities and Investments Commission (ASIC) requiring high compliance and disclosure from lenders and advisers to all borrowers.
Borrowers should seek credit advice from an accredited reverse mortgage specialist before applying for a reverse mortgage. Anyone who wants to engage in credit activities (including lenders, lessors and brokers) must be licensed with ASIC or be a representative of someone who is licensed (that is, they must either have their own licence or come under the umbrella of another licensee as an authorised credit representative or employee) (ASIC). Eligibility requirements vary by lender. The exact amount of money available (loan size) is determined by several factors:
- the borrower’s age, with a higher amount available at a higher age[7]
- current interest rates
- property value
- the property’s location
- program minimum and maximum; for example, the loan might be constrained to a minimum of $10,000 and a maximum of between $250,000 and $1,000,000 depending on the lender.
The cost of getting a reverse mortgage depends on the particular reverse mortgage program the borrower acquires. These costs are frequently rolled into the loan itself and therefore compound with the principal. The interest rate on the reverse mortgage varies. Some programs used to offer fixed rate loans, while others offer variable rate loans. Since the update of the National Consumer Credit Protection Act in September 2012, new reverse mortgage loans are not allowed to have fixed rates.
In addition, there may be costs during the life of the reverse mortgage. A monthly service charge may be applied to the balance of the loan (for example, $12 per month), which compounds with the principal. The best products have no monthly fees. The money from a reverse mortgage can be distributed in several different ways:
- as a lump sum, in cash, at settlement;
- as a Tenure payment, a monthly cash payment;
- as a line of credit, similar to a home equity line of credit;
- as a combination of these.
The borrower remains entirely responsible for the property. This includes physical maintenance. In addition, some programs require periodic reassessments of the value of the property. Income from a reverse mortgage set up as an annuity or as a line of credit should not affect Government Income Support entitlements. However, income from a reverse mortgage set up as a lump sum could be considered a financial investment and thus deemed under the Income Test; this category includes all sums over $40,000 and sums under $40,000 that are not spent within 90 days.
Most reverse mortgages must be repaid (including all unpaid interest and fees) when they leave the home permanently. This includes when they sell the home or die. However, most reverse mortgages are owner-occupier loans only so that the borrower is not allowed to rent the property to a long-term tenant and move out. A borrower should check this if he thinks he wants to rent his property and move somewhere else.
A common misconception is that when the borrower dies or leaves the home (e.g., goes to an aged-care facility or moves somewhere else) the house must be sold. This is not the case; the loan must be repaid. Thus, the beneficiaries of the estate may decide to repay the reverse mortgage from other sources, sale of other assets, or even refinancing to a normal mortgage or, if they qualify, another reverse mortgage.
Prepayment of the loan—when the borrower pays the loan back before it reaches term—may incur penalties, depending on the loan.[7][10] An additional fee could also be imposed in the event of a redraw.[10] Under the National Credit Code, penalties for early repayment are illegal on new loans since September 2012; however, a bank may charge a reasonable administration fee for preparation of the discharge of mortgage.
All reverse mortgages written since September 2012 must have a “No Negative Equity Guarantee”. This means that if the balance of the loan exceeds the proceeds of sale of the property, no claim for this excess will be made against the estate or other beneficiaries of the borrower.
On 18 September 2012, the government introduced statutory ‘negative equity protection’ on all new reverse mortgage contracts. This means the borrower cannot end up owing the lender more than their home is worth (the market value or equity). In a reverse mortgage begun before 18 September 2012, the contract specifies whether the borrower is protected when the loan balance ends up being more than the value of the property.
When the reverse mortgage contract ends and the borrower’s home is sold, the lender will receive the proceeds of the sale and the borrower cannot be held liable for any debt in excess of this (except in certain circumstances, such as fraud or misrepresentation). Where the property sells for more than the amount owed to the lender, the borrower or his estate will receive the extra funds.
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