In April of 2012, MetLife announced its withdrawal from the reverse mortgage business, ten months after Wells Fargo did the same.
MetLife and Wells Fargo were considered two of the top lenders in reverse mortgage. Another giant, Bank of America, left the business early 2011.
The lenders’ move boil down to this: low earnings. These low earnings can be read two ways:
1.) Reverse mortgage is not that profitable for the lenders – they failed to make business out of the seniors. In colloquial term: the ‘corporate America’ did not advantage the retirees (sliding home prices aside).
2.) Some retirees are not responsible enough to pay their home insurance and real estate tax bills, which are part of their stipulated responsibilities when they signed for reverse mortgage (According to Reverse Market Insight around 30 thousand borrowers defaulted on at least one of the two in 2011). As a result, the lenders effect foreclosure (they have the right to do so), leaving them in a risky position and a ‘bad guy’ image.
Regardless of the political and economic eyes you use to read the implications of lenders exiting reverse mortgage, one claim has a truth value: reverse mortgage, like with any other programs, has certain benefits and downsides. Read on as I highlight the main arguments for and against it.
Reverse Mortgage Pros
In reverse mortgage, the senior does not have to own the property fully in order to qualify. There is also no minimum credit score and no income requirements. Lenders take into consideration the senior homeowner’s age, health, home value, and home equity instead of the retiree’s credit score, savings, and income. Ownership and title of the property also stays under the senior’s name even if a reverse mortgage is already in effect.
Reverse mortgage also provides a guaranteed source of tax-free income until the maximum loan limit is exhausted (the senior is not allowed to loan more than the value of the property). In case that the reverse mortgage balance is less than the value of the property at the point of repayment, the heirs get to keep the difference. The heirs are, however, not liable for any debt the senior incurred in the process. The senior has also the leeway to receive the loan as a lump sum, line of credit, monthly payment, or a combination of these means.
Lastly, the more financially established seniors could use a reverse mortgage as effective estate planning tool. For instance, a senior may use a reverse mortgage loan to buy life insurance in an irrevocable trust. This kind of insurance can have death benefit that exceeds the amount loaned in reverse mortgage. Additionally, it will not be subject to income or estate taxes.
For ideas on better utilization of reverse mortgage, visit Barry and Stephen Sacks’ analysis in Journal of Financial Planning. Barry is a practicing tax attorney in San Francisco, California while his brother Stephen is a professor emeritus of economics at the University of Connecticut.
Reverse Mortgage Cons
In reverse mortgage, debt can inflate quickly as the interest compounds over the term of the loan. The said interest is also not tax deductible. Interest rate in reverse mortgage is generally higher than the conventional or forward mortgage.
Given that no monthly payments are made by the senior, the interest that accrues is considered as a loan advance. Interest is calculated every month based not only on the principal amount received, but also on the interest formerly assessed to the loan. So the longer a senior has a reverse mortgage, the higher the accumulated interest once the loan becomes due.
Another pitfall to think about is that although reverse mortgage does not affect Social Security and Medicare benefits, it may have an effect on other need-based government assistance like Medicaid. Foreclosure is also a possibility if a borrower does not keep up with the insurance and maintenance requirements (these are among the most cited problems of former reverse mortgage lenders).
Think Through All The Pros and Cons of Reverse Mortgage
Reverse mortgage may prove to be an effective retirement financial planning tool, but it may not be applicable to every senior’s situations. Seniors contemplating taking on a reverse mortgage should make themselves familiar with the scheme’s pros and cons first before jumping on the wagon. Seek assistance, better yet, a housing counseling to receive some sound financial advice needed to arrive at the most effective retirement financial plans.