Issue

Reverse Mortgages, Real Experiences

^{Delia Rickard | FEBRUARY 2008}

The Australian Securities and Investments Commission (ASIC) profiled the experiences of people who had taken out reverse mortgages in 2007. Here are its findings.

A reverse mortgage is a loan where consumers borrow money against the equity in their home. The loan and interest is not repaid until the home is sold.

Reverse mortgages are becoming more popular, and can be a useful way for older people to access the equity in their homes. However, the products have unusual features and significant risks.

While the borrowers interviewed for the ASIC report were generally satisfied with the reverse mortgages they had taken out, we found that there are several factors surrounding the decision to enter into a negative equity arrangement that could inhibit ‘good consumer decision-making’.

The issues that have the potential to hinder informed decision-making and increase the risk of future problems are varied. They often related to the level of understanding borrowers might have of what they are actually entering into when taking out a reverse mortgage.

One problem experienced by many of the borrowers we spoke to was a lack of familiarity with reverse mortgages in general. The complex nature of these financial products and their difference to other credit products makes them hard to understand.

Some people also found that they had difficulty budgeting for the long-term with access to a large amount of credit, making it hard to accurately estimate how much equity might be available to them at any time in the future. There was also a reluctance by many to consider their future needs and how this might impact on their finances, particularly the risk of declining health and how this may affect how much money they might need in years to come.

Another issue of concern was that people's children were sometimes the catalyst for a decision to take out a reverse mortgage. We heard how in some instances, it was children who wanted access to financial assistance. In these cases, children needing some financial help would encourage older parents to access funds from their home, sometimes in inappropriate circumstances.

On the whole, very few of the borrowers we interviewed were aware of all the conditions of their loan and the serious consequences of not meeting these obligations.

We found that many people did not know how much the loan was likely to cost them over time. More concerning still was that more than half of those we spoke to told us they did not know what would happen if they breached a loan condition. It would seem that most of these people did not have tailored projections about the likely long-term cost of a reverse mortgage.

Interestingly, very few borrowers appeared to have considered how their financial needs might change over the next 10 or 15 years.

When borrowers looked forward, they usually only looked two to three years ahead. The average life expectancy for a 65-year-old is about 20 years. Therefore, planning needs to cover a much longer time period than most borrowers had considered.

Relative to this was the issue of budgeting. Some borrowers clearly had difficulty budgeting, with one borrower telling us that for him, a reverse mortgage was ‘like having a credit card with a $100,000 credit limit and no repayments’.

In general, those borrowers who had a clearer plan of what their financial needs were before taking out the reverse mortgage found it much easier to budget.

Several borrowers commented about how difficult it had been to resist the constant availability of credit. A small number were already expressing regrets about how they had used their reverse mortgage and how quickly they had exhausted the funds they had borrowed.

While there are issues of concern to ASIC with respect to equity release products in general, in the right circumstances, a reverse mortgage might be of great assistance to home-owners who need access to some cash.

However, we urge you to think carefully about your situation before considering an equity release product, and to always seek financial advice before you consider a reverse mortgage.

ASIC interviewed 29 borrowers, keeping the sample to this size to enable the collection of comprehensive information and access to information from lenders. The survey was not designed to represent the market generally. Read the report www.asic.gov.au/reports.

Need more help?

Consumer information including checklists and a reverse mortgage calculator is available at www.fido.gov.au/equityrelease or call FIDO on 1300 300 630.

Reverse Mortgage Checklist

ABOUT YOU
Think about current and future financial needs	How much cash you need now How much the loan may cost you over the long term How long you are likely to live for Will you have enough cash left over for aged care accommodation if needed Whether you want to leave anything to your children
What are your other options?	Selling your home and moving somewhere smaller Living off your current income and getting a reverse mortgage product later (to preserve your nest egg)
ABOUT THE LOAN
What are the age and eligibility criteria for the loan?	With most loans, you should be able to borrow more, the older you are. For couples, the amount you can borrow depends on the youngest borrower's age. Some lenders may be choosy about the properties they take.
Will there be money left over?	Some products allow you to protect a fixed percentage of the value of the property so it cannot be used to repay the debt.
Can the loan exceed the property value?	Only take a reverse mortgage that has a no negative equity guarantee, otherwise you could end up owing more than your house is worth.
Has the property been independently valued?	The valuation of your home will determine how much money you get so make sure it's an independent valuation.
What about rates, insurance and maintenance?	Most products require you to pay rates, maintain and insure your home. Maintenance can be costly over time. And as you get older, you may find it difficult to maintain the property in the same way you had done previously.
INTERESTS AND COSTS
What are the costs?	Costs can include establishment and ongoing fees, and home valuation costs. If these fees are added to your loan, interest is charged on them, which compounds (or builds up over time).
What is the interest rate?	Interest rates are generally higher than for traditional home loans and differ between products.
Fixed or variable interest rate?	A fixed rate usually costs more and a higher fee may apply if you pay off the loan early. If you are worried that interest rates will increase, you may wish to lock in a more favourable long-term rate.
ABOUT PAYMENTS
How are the funds paid?	Funds can be paid as an upfront lump sum, regular monthly payments, a line of credit, or a combination of these options. Check which options are available.
What are the pros and cons of different payment options?	You may be able to slow the growth of your debt by choosing regular payments instead of a lump sum, because you pay interest only on the amount you've actually withdrawn. Check with your financial adviser which option is best for you. Use FIDO's reverse mortgage calculator to help with your planning.
What will be the impact on your government pension?	Payments can affect your pension entitlements. For more information talk to Centrelink's Financial Information Service or the Department of Veterans' Affairs.
ABOUT YOUR LENDER
Is the lender financially sound and properly regulated?	If not, there may be an increased risk that the lender may not be able to meet any long term promise to make payments. Use a bank, building society, credit union or other prudentially regulated institution. These institutions are specially regulated to make sure that, under all reasonable circumstances, they can meet their financial promises.
ABOUT YOUR RIGHTS
Can you cancel?	Check if there is a cooling off period.
What if you breach the terms and conditions?	You may lose key rights such as the no negative equity guarantee and the lender may have the right to evict you. Get a lawyer to check the fine print.
What if you want to move home?	Check if the loan is portable.
Can the lender control what you do with your home?	You are often required to live in your home and maintain it to a standard set by the lender. You may also need the lender's ok to sell, lease, renovate or vacate your home, or to have someone else live with you in your home.
What if a resident in the home is not a borrower on the contract?	Only a few products protect the rights of resident non-borrowers. In other cases, they may have no rights when you die or leave the property.