Reverse appreciation
As the housing finance ecosystem evolves into greater complexity, robustness, and efficiency, the owned home moves up the ladder of essential attributes, acquiring ever more benefits. First the home becomes a savings device, eventually the home becomes a financially liquid asset, where earners can tap their equity for starting up a new business, home improvement, or family expenses (like the ever-more-pricy college education). Yet most such loans are self-amortizing, and hence suitable only for those who anticipate having continuing or even increasing income. What of the elderly?
Straight from a refinancing-company’s web site; the thoughtful elders
As I’ve previously posted, in the last couple of decades there has emerged the concept of reverse mortgages, loans that reverse the normal equity buildup by handing the homeowner a pile of cash all at once, for a loan substantially less than the home’s remaining equity. Thereafter the loan accrues interest (like a zero-coupon bond), its accretion consuming an ever-greater portion of the equity. Because there are no payments, the curves may cross — the homeowner may lose all her equity if she lives ‘too long.’
Your equity’s run out
The rapidly accelerating loan buildup, coupled with the one-person tontine anti-savings element, makes the decision-making around reverse mortgages unusually complex, as illustrated in this Los Angeles Times story:
Like millions of Americans, Bill and Helen Bluett’s greatest financial asset is their home, a Spanish-style dwelling just a quarter of a mile from the ocean in
In real estate developer lingo, the Bluetts are house-rich and cash-poor — almost all of their net worth is ‘tied up’ in their home.
My equity’s in my wallet, but I can’t reach it
Selling the place and buying a cheaper one elsewhere could have brought the couple hundreds of thousands of dollars in extra money for their retirement years. But there was one problem with that idea.
“We love our home,” said Bill Bluett, 67, a retired mechanical engineer. “We love our neighborhood. As long as we’re physically able, we want to stay right where we are.”
More than likely, so do their neighbors, friends, and family. Such a situation is ripe for a financial innovation:
So this year, the Bluetts signed up for a reverse mortgage, a type of loan that allows older borrowers to tap their home equity without making payments as long as they live in the house.
In a conventional mortgage, the lender lends you money to buy a house and you gradually pay down the debt — and build up equity — as you make monthly payments.
In a reverse mortgage, the lender gives you the money — as a lump sum, in monthly installments or as a line of credit — and takes your home equity as payment.
For what will the Bluetts use their money?
With the money, the Bluetts are more than able to take on projects like remodeling the kitchen and bathrooms.
Use your head before you remodel
Remodeling both enhances their quality of life and probably also increases the home’s resale value. The latter conclusion is more tentative; kitchen and bathroom makeovers are about the most common new-buyer’s expenditure, so much of the cost of improving the current one is lost when the new, better fixtures, are themselves ripped out.
More important, Bill Bluett said, the reverse mortgage makes them financially prepared for “any emergency — whether it’s medical or whatever — that might come up” in the future.
The Bluetts’ decision here is more complex and debatable.
· The case for waiting. The equity in their house is unlikely to run away, nor is it likely that reverse mortgages will disappear entirely. So they could have liquefied their equity at any time they wanted to.
· The case for acting. The Bluetts, like many of us including the Careful Shopper, may have saving so inculcated that they will usually talk themselves out of spending money on life’s small pleasures, so they borrow now. And, should either of the Bluetts’ faculties start to diminish, they may be very glad they undertook the sophisticated analysis now, when they are both healthy and alert.
“My wife and I decided it would give us a lot of peace of mind,” he explained.
I feel all better now
Which, as we all know, is well worth some amount. How much?
Based on recent interest rates, such a loan might come with an adjustable interest rate of about 6%, with interest charges compounding during the life of the mortgage.
(Try it with your own house using the little reverse mortgage calculator here. You’ll have to pretend to be 62 or over.)
Hit 6-2
Reverse mortgages have been criticized for high upfront costs. Lenders may charge 2% of the loan amount in origination fees — as much as $7,256 in
Once upon a time, two points for origination was market-standard, but in today’s world of automated underwriting, it’s high. Further, that the fees are higher than conventional loans isn’t ipso facto evidence of over-charging; the credit decision is similarly complex for the lender, who has to make an informed judgment about how long the borrower will live — heartless but nonetheless relevant.
How long will my customer live?
Not to get you shedding crocodile tears for lenders, do spare a moment to consider their predicament.
Typically, reverse mortgages don’t have to be paid back until you sell your home, move or die.
Most state laws covering reverse mortgage prohibit evicting the homeowner during his or her lifetime, so if the homeowner lives an unusually long time, the accreting loan balance may exceed the home’s equity. Meaning the lender loses a portion of its yield. Lenders thus face a curious and hard-to-root-for credit risk.)
Did it hurt when I kicked you in the yield?
In an era when legions of older homeowners are sitting on vast amounts of untapped equity, reverse mortgages seem to be catching on. Competition has started to push down costs –
It always does.
Costs are about to come down!
– and lenders are beginning to offer loans on unlimited amounts, a noteworthy shift in an industry that has mostly relied on federally insured mortgages with strict caps.
In recent months, Countrywide Financial Corp., Bank of America Corp. and BNY Mortgage Co. all have scaled up their efforts in the growing field.
All of these are major players. The big boys are coming in.
We’re entering the arena
Early this year, Countrywide Financial of Calabasas, the nation’s biggest mortgage lender, introduced SimpleEquity, its reverse mortgage that imposes no caps, waives the origination fee for certain borrowers and charges no premium for mortgage insurance.
Costs coming down!
In April, Bank of America announced that it would buy Seattle Mortgage Co., one of the leading reverse-mortgage providers in the country, and in May, BNY Mortgage of New York unveiled the first fixed-rate reverse mortgage for jumbo home loans, filling one of the gaps in the industry.
By some indications, new offerings are filling a gap in the market. Countrywide’s SimpleEquity, which is granted for amounts far above the federal lending limit, now accounts for almost half the lender’s reverse mortgages. Such innovations “are opening up doors that didn’t exist in the past,” said D. Steve Boland, managing director of reverse mortgages at Countrywide.
Innovation, price competition, and cost cutting are just around the corner.
After years on the sidelines, Wall Street has entered the game, with investment banks for the first time purchasing such loans in a “secondary market” that may further stir innovation and encourage more lenders to offer reverse mortgages. At the current rate, lenders could sell more than 100,000 reverse mortgages this year — more than double the number from 2005.
Because reverse mortgagors are overwhelmingly likely to be elderly, a thicket of consumer protection laws applies.
People must be at least 62 to qualify for a reverse mortgage. In
“So, tell me about these feelings of repressed hostility toward lenders.”
Given that, homeowners should carefully weigh their options, experts say.
You need equity to get to the next world
Borrowing is simply the reverse of saving.
Home equity loans can be a cheaper way to come up with cash for people willing and able to make payments in retirement.
You just have to make the payments.
Selling the house and downsizing to a cheaper dwelling is another alternative, depending on the borrower’s priorities.
Which has a whole different set of externalities, starting with brokerage costs.
If the goal is simply home repair, seniors should explore whether their communities have low-cost loans available for that very purpose, said John Rother, director of policy and strategy for AARP.
“It’s good to have the option,” Rother said of reverse mortgages. “But it’s not an option appropriate for everyone.”
He’d rother you have the option, but he’d rother you not use it
“People who are using them, by and large, have a huge degree of satisfaction,” said
Yet most people think it makes plenty of sense:
“The last six months to a year have been incredible,” said Bart Johnson, president of Irvine-based Financial Freedom Senior Funding Corp., a leading provider of reverse mortgages. At Financial Freedom, Johnson envisions a future in which reverse mortgages may be seamlessly linked with the conventional variety.
Such a loan might start off as a traditional mortgage. But years later, when the note is finally paid off, nobody burns it or throws it out: Instead, the mortgage automatically moves into reverse, as the borrower — older now — takes out cash for retirement and allows some of the equity to flow back to the lender.
Well, maybe not that bad an idea
Though that’s a bit too automatic for my taste, Mr. Johnson gets points for creativity.
Better keep thinkin’, Butch, that’s what you’re good at
“I think that’s going to become a pretty mainstream product,” Johnson predicted. “Today it doesn’t even exist.”
Write a comment