Reverse Mortgage Daily recently ran a piece with this title, and it raised some interesting points. The author wonders aloud about whether recent fee reductions will confuse customers to the point of indecision. Not only could this increase bad publicity surrounding reverse mortgages, but it could also lead to decreased volume.
Based on the results of a rudimentary survey, it seems that the readership was evenly split over whether the pricing changes would confuse borrowers. Some readers thought that lower fees would naturally be embraced by borrowers, while other readers considered the notion that older people tend to prefer simplicity: “As one of my older friends used to tell me all of the time: ‘As I get older I find myself hating too many selections on a menu. Why can’t they have fewer choices?’ ”
Personally, I can see the logic in both positions. On the one hand, lower fees are unambiguously a good thing for borrowers, especially if they are adopted universally by all lenders. When you consider the origination fees, service fees, insurance premiums, and interest charges, reverse mortgages are downright expensive. While they remain expensive in spite of the fee cuts, any development which transfers money from the lender to the borrower should be applauded.
On the other hand, I can also understand why pricing changes could be confusing to consumers. Since the pricing changes haven’t yet been adopted by all lenders, some borrowers might be inclined to wonder if perhaps there is a link between price and quality, and obtain a reverse mortgage from a lender that hasn’t lowered its fees. In addition, the fee reductions have been implemented in various ways, which IS confusing. In nominal terms, eliminating origination fees is probably comparable to a 50% discount in the upfront insurance premium, but this may not be clear to borrowers.
Finally, there is the notion that fee reductions can potentially be bad for borrowers, if they increase the size of reverse mortgage loan. As I discussed in a recent post, if a lender shrewdly (with or without the complete understanding of the borrower) rolls the savings back into the reverse mortgage, the interest paid on that additional principal will more than offset the decrease in fees, over the life of the mortgage.
Perhaps borrowers are right to be skeptical, after all.
Anyone who wishes to obtain a reverse mortgage has to undergo an “interview” with a HUD-approved counselor. While there is no substitute for this counseling session, there is still an important step that you can take to ensure that a reverse mortgage is right for you: interview yourself.
In conducting this self-interview, you should first ask yourself: Why do I want a reverse mortgage? Avoid the inclination to answer, because I can, and try to drill deeper into your rationale for obtaining one. Are you especially short on cash, and/or looking for a quick fix for a sudden, personal financial crisis? Towards what end(s) will you use the reverse mortgage proceeds? Perhaps you want to make a big purchase, and you lack the funds to do so? Perhaps, you plan to take the proceeds in monthly increments in order to fund day-to-day living expenses? There are no right or wrong answers to these questions: it’s only important to be honest with yourself when answering them.
Next, ask yourself if you really need a reverse mortgage. If not for the reverse mortgage, what sacrifices, if any, would you have to make? Would you still be able to maintain your current standard of living? Would you even be able to remain in your current home? Perhaps you have a primary mortgage that you can only repay with the help of a reverse mortgage?
How does your reverse mortgage fit into your overall financial plan? Depending on your age, the amount you borrow, and fluctuations in housing prices, you may eventually exhaust all of the equity in your home. Can you afford this possibility? If/when you decide to move into an assisted living facility or nursing home, is it realistic to assume that you can pay for this yourself (taking your reverse mortgage into account)?
Along the same lines, ask yourself if there are any reasonable alternatives to the reverse mortgage. Since reverse mortgage are inherently costly (due to a combination of interest, origination fees, and insurance premiums), you should naturally make sure that there does not exist a cheaper option. For example, can you borrow a comparable sum from friend or family member? Are you eligible for a single-purpose reverse mortgage? Can you “downsize” into a less expensive home?
Finally, consider the impact of your reverse mortgage on your estate. Do you plan to leave money/assets to your children as part of your will? If your home has sentimental value for you, does it also have sentimental value for your children? If you obtain a reverse mortgage, will it still be possible for the home to remain with your heirs after your death? Is this even an important consideration?
In short, you want to take very seriously the decision to obtain a reverse mortgage. Once you make the decision, the process of actually obtaining the reverse mortgage is quite straightforward and will be (psychologically) hard to derail once it gets started. That being the case, the HUD-approved counseling session is basically a formality, undertaken right before closing, designed to make sure that you understand the basic mechanics of a reverse mortgage. Before you get to that point, conduct a self-interview and make sure a reverse mortgage is right for you.
Last week, Arizona became the second state (after California) to pass legislation governing reverse mortgages. The legislation is a hot topic of discussion on the blogosphere, but upon closer examination, it can hardly be considered news.
According to its drafters, the legislation was designed to protect borrowers that aren’t covered by federal regulation: A ” ‘significant segment‘ of the reverse-mortgage market is not subject to federal regulations, said Assistant Attorney General Jennifer Boucek…Rep. Bill Konopnicki, R-Safford, who sponsored the Arizona legislation, said it fills a gap in the law.” To be fair, proprietary reverse mortgages should be regulated, but given that they represent such a minuscule portion of total reverse mortgage lending (the majority of borrowers opt for a federally-insured HECM reverse mortgage), this legislation is tantamount in scope to a law regulating people that have alligators as pets.
If you examine the content of the legislation, it is basically a carbon copy of the regulations which already govern the federal Home Equity Conversion Mortgage (HECM). The first provision of the law “Mandates that adequate financial counseling be provided by a counselor who is an independent third party.” It describes in detail what is meant by “independent third party,” and how the borrower and originator can satisfy this requirement, in a manner consistent with federal guidelines.
The second and third provisions outline the structure of any reverse mortgage, though again, there is almost complete harmony with the federal program. Along the same lines, it bans the cross-selling of other financial products, and lists the disclosure which must be provided to borrowers, such as to promote full transparency. The next provision dictates that a borrower cannot be held liable if the balance of the reverse mortgage exceeds the value of the home. The final provision explains how the bill will be enforced and how violators will be punished.
As you can see, there is nothing groundbreaking or worth getting excited about. Basically, the goal of the law seems to be to regulate proprietary reverse mortgage out of existence in Arizona, since no rational lender would originate one that is identical to the federal HECM reverse mortgage, only without the insurance. Remember that the insurance protects the lender, and the only way for a lender to protect itself absent of insurance would be to charge a very high interest rate and/or to hold the borrower liable if the price of their home declines. The latter is now illegal, and the former would be self-defeating.
So, there you have it: your Tax Dollars at work. If more states follow suit, it looks the only reverse mortgage programs that will be available to borrowers (for better or worse) will be those that are administered by the government.
It’s important to read/listen to reverse mortgage sales pitches carefully and to take everything that is said with a grain of salt. That’s not to say that all reverse mortgage ads are dishonest; however, most that I’ve seen push the limits of credulity. It could just be that the sleaziest companies do the most advertising, but regardless, vigilance is crucial.
First of all, reverse mortgages are not a government benefit, and you should be wary of any solicitation that does so much as hint to the contrary. The majority of reverse mortgages are insured indirectly by the government, but this insurance is priced as though it were being underwritten by a private company, and is not subsidized by the government (at least not intentionally). Reverse mortgages themselves are issued and administered by private lenders, and while subject to government oversight/regulation, they are not meted out directly by the government, like social security payments.
Reverse mortgage are NOT free. You might mistakenly assume that this is the case since ads will undoubtedly promise you that that you won’t have to expend any money in order to obtain one and never have to repay the loan. While this is superficially the case, in reality, all of the upfront costs (which are substantial) as well as the interest, are rolled back into the loan and must be repaid after the borrower passes away or moves out.
In addition, don’t be seduced by the pictures of the “happy borrower,” smiling on the beach or from behind the wheel of a new convertible. While it’s true that the proceeds from the reverse mortgage are not subject to any rules regarding how they can be spent, the program was not designed to fund extravagant purchases. It might seem like a great idea to take that vacation that you have been putting off or buying that sailboat that you have been dreaming of. In reality, if you fund such expenditures using a reverse mortgage, consider not only that you are essentially trading your house for them, but also that if you need to tap the equity in your home for more pressing needs later on, the money will no longer be available.
On a related note, don’t be pressured by “special deals.” Lenders might exhort you to “ACT NOW” to take advantage of low interest rates or a temporary waiver of certain fees. They might warn you that insurance premiums will rise and loan limits will fall. In fact, this sense of urgency is deliberately contrived by the lender to drum up business. It’s true that interest rate are low, but nobody knows if/when they will rise. It’s also true that many lenders have lowered there fees, but again, nobody knows if/when they will rise. Meanwhile, loan limits and insurance premiums are constantly being adjusted by the FHA in accordance with actuarial assumptions about housing prices and life expectancy.
Finally, don’t be fooled by personalized ads. Obtaining a reverse mortgage is extremely easy; as long as you are of a certain age and your home equity is above a certain threshold, qualifying is practically automatic. Chances are that the reverse mortgage lender simply obtained your name because you are over the age of 62, and not because of your specific circumstances. In fact, a low credit score might make you especially vulnerable to reverse mortgage solicitation, because lenders will assume you are more desperate for cash.
In short, remember that reverse mortgage ads aim to persuade as much as inform. Before you make a decision, make sure you have all the facts.
The process of obtaining a reverse mortgage is relatively straightforward from the borrower’s standpoint. The role of adult children, however, is slightly more complicated. If your parent(s) is contemplating a reverse mortgage, here are a few considerations:
The first step – and this applies even if your parent is not even considering a reverse mortgage – is to have a frank discussion with your parents concerning their finances. While this seems self-evident, research shows that the majority of adult children have either never had this conversation, or have undertaken the discussion in insufficient depth. Before they begin the application process, then, sit down with your parents and try to understand their reasons for wanting to obtain the reverse mortgage and whether it will adequately address their financial concerns.
If it’s clear after this discussion that a reverse mortgage is the only real option that will satisfy your parents’ needs, you can suggest a handful of less expensive alternatives. For example, you (and/or your siblings) can extend a private reverse mortgage to your parents, thereby eliminating transaction costs and has the added benefit of keeping any interest that will be charged within the family. Their might also be tax benefits that inure to you as the lender. Of course, it’s important to notarize the loan and structure it in legal terms such that it cannot be challenged by other family members. Another possibility is for you to purchase your parents home outright and simply allow them to continue living there. When your parents pass away, the home can be sold or kept, depending on your preference. Assuming you have the means, both of these alternatives will be more economical for your parents, and as an heir, potentially for you as well.
If neither of these possibilities is realistic and your parents are determined to obtain a reverse mortgage, the best thing you can do is to protect their interests. Actually, the first thing to do is to make sure your own interests are protected. Towards this end, you should urge your parents to obtain an insured reverse mortgage so that you (aka your parents’ estate) are not liable for any shortfall, in the event that the sale of the home is not enough to repay the balance due on the mortgage. Fortunately, the federally insured Home Equity Conversion Mortgage (HECM) is widely available, and a foregone conclusion for most borrowers.
If you are concerned that your parents might be taken advantage of, you can accompany them to sign the paperwork as well as to the counseling session(s). It might help your parents to have another set of ears, and you will be in a better position than the lender to provide unbiased advice in the decision-making process. Otherwise, encourage your parents to shop around, so that they get the best deal. For better or worse, the decision to obtain a reverse mortgage is theirs alone, and even if you disapprove, the best thing you can do once the decision has been made is to be supportive and help them through the process.
Last month, I reported that a handful of reverse mortgage lenders had eliminating their servicing fees, in a move that would potentially save borrowers thousands of Dollars. Since then, many other lenders have already followed suit, with some going one step further and eliminating origination fees as well.
At this point, most of the major players in reverse mortgage lending have moved to match the fee cuts in one form or another, including Genworth Financial, Wells Fargo, OneWest Bank’s Financial Freedom, MetLife, and Bank of America. The former four will eliminate the origination fee and service fee set aside (SFSA), while Bank of America will contribute 50% of the reverse mortgage insurance premium. (In practice, these cuts are almost equivalent). All of the lenders have also announced reductions in in the interest rates that they will charge borrowers.
The fee reductions (which could “save” borrowers $10,000+) have unfolded in the context of increased competition and decreasing volume: “From Oct. 1, 2009, to March 31, 2010, home-equity-conversion mortgage volume fell 22% from the same period a year earlier,” perhaps in response to falling home values. Given that reverse mortgages have basically become a commodity financial product, fought over by no less than 1,000 lenders nationwide, shrinking profit margins (in the form of fee cuts) were probably inevitable. In fact, the most recent data shows a slight uptick in volume, which perhaps shows that the cuts are working.
On the one hand, these cuts will probably be appreciated by the borrower. On the other hand, they are not exactly costly from the lender’s standpoint. When you consider that since all reverse mortgages are insured by the FHA (which, then, absorbs all of the risk), the lenders can basically sit back and collect rent (aka interest) risk-free for as long as the loan remains outstanding. The origination and servicing fees were certainly a nice bonus, but not exactly necessary to turn a profit. In fact, the latest trend is for reverse mortgages to be packaged and sold to investors (much like conventional mortgages); in this case, the lender’s responsibility is basically limited to collecting a handful of signatures from the borrower, before passing the reverse mortgage along its way and taking a cut in the process.
Moreover, the so-called savings that borrowers are supposed to realize from the fee reductions are typically rolled into the mortgage to increase the loan amount. Thanks to the structure of reverse mortgages and the law of compound interest, the lender can potentially earn more over the life of the loan by charging you less upfront. For example,$10,000 in savings rolled into the reverse mortgage will grow to $20,000 when the loan needs to be repaid (assuming 5% interest and 15 years), which means that the lender probably comes out ahead.
In short, the only way that you can come out ahead is simply to pocket the savings rather than using them to increase the loan size. For everyone else, these fee reductions might seem like a good deal, but the end result is basically a wash. From where I’m sitting, reverse mortgages are still expensive.