Demand for reverse mortgages has begun to slacken, due largely to factors beyond the control of (potential) borrowers.

In a nutshell, housing prices remain low, as a result of the economic crisis, and FHA recently issued a new directive that cut the maximum reverse mortgage loan size. Both of these factors strike directly at the heart of reverse mortgages, because they limit the amount of cash available to borrowers. This figure is basically determined by multiplying FHA loan limits (which is expressed as a percentage, and varies by age and in accordance with prevailing interest rates) by the appraised value of one’s home. Since both home values and FHA loan limits are both lower, this translates into a smaller reverse mortgage.

For the majority of reverse mortgage borrowers, this constitutes a serious problem, since many are strapped for cash, and need to withdraw a large percentage of the equity in their home in order to make the loan work. This is especially true for borrowers that have existing liens (i.e. primary mortgages) on their homes, and intend to use the reverse mortgages to repay them.

It’s not clear how long housing prices will remain depressed. The most recent data suggests that a recovery might not be far away, but there are plenty of analysts who think that this represents a “false bottom.” In other words, housing prices could conceivably continue to fall, before ultimately exiting from the downturn. This has important implications for potential reverse mortgage borrowers, since it directly effects the amount of cash they can receive if entering into a reverse mortgage today. Instead, many such borrowers might be inclined to wait until the market recovers before considering a reverse mortgage.

The FHA directive, meanwhile, is probably more permanent. It was enacted both in response to the housing market crash and because of it’s insolvency. Apparently, the possibility of government subsides and/or higher insurance premiums had been considered, but ultimately rejected, in favor of simply lowering maximum loan amounts. As the FHA’s financial problems probably won’t abate, higher loan limits seem unlikely in the near-term.

Then again, if home prices rise, reverse mortgage “defaults” will also subside, and the FHA could contemplate returning the old loan maximums. In this case, reverse mortgage borrowers would be rewarded twice.