Every time I see one of those reverse mortgage commercials on television – especially the one with Fred Thompson – I have to fight the urge to throw something at the TV. I’ll come out of the closet and admit it, I hate reverse-mortgage commercials with a passion that is difficult to describe.
For one thing it’s that line about the benefits for seniors – “you don’t have to worry – reverse mortgages are insured by the United States Government”. Let’s translate that statement into plain English– What that line really means is “WE don’t have to worry – if your house goes down in value we’ll just let the taxpayers, (i.e. your kids), pay off your balance due for you.” But, coming from former Senator Fred Thompson, “The Fonz” Henry Winkler or a smooth, mature Robert Wagner, it sounds soooo comforting.
Other so-called “benefits” of reverse mortgages — that they are “important-financial-tools” and can provide “tax-free cash“, are merely circumstances stated as a benefit. That’s right, you can take $60,000 out of your home with a reverse mortgage and it’s going to be “tax-free”. Whoopee. I’m sure some of you already know why it’s tax free…it’s a LOAN, not income. Yes debt can be used as a financial tool, but somehow I can’t picture Donald Trump or Warren Buffett utilizing this one to build more wealth.
In the days before the crash of 2008, reverse mortgages seemed to make all the sense in the world. If my home is going up in value, why not take all the cash out that I can, then when I die, my kids or heirs can simply sell it to pay off the debt, then keep the rest of the money. It sounded like a reasonable plan way back when. But today, the market fundamentals have changed in a way that makes reverse mortgages a risky proposition for lenders, seniors and those that could be expected to pay for the fallout.
Many senior homeowners have worked hard all their lives, saved money for retirement and now that they have arrived, they’ve discovered that the rules of the game have been changed. The financial tools that worked 30 or 40 years ago are relics of a bygone era. An era before the end of the gold standard and the beginning of runaway inflation that has eaten up the value of what boomers and their parents worked to save. Inflation has slowly and steadily eroded the value of those savings, while causing prices to climb ever higher. Pennies at a time, but more and more pennies over time.
According to usinflationcalculator.com a $1 item in 1972 costs $5.62 in 2014. This means in general terms that if you earned $100 a week at your first job in 1972, you need $562 today just to keep the same average income you had in 1972. Fast forward 30 years to the easy money policies of the 2000’s and it’s no wonder that the majority of baby boomers are having so much trouble making ends meet. Relentless inflation combined with life savings that are earning near-zero interest, is making reverse mortgages look like a potential financial savior – in spite of the wholesale-level, (60 to 70 cents on the dollar), Loan-to-Value that reverse mortgages offer. This is a great financial tool alright – but it’s mostly a great tool for the lender / investor, not the borrower.So let’s examine the logic of this “important financial tool” and look at some of the facts:
1. Our economics and our culture has become debt oriented instead of savings and investment oriented:
The “free” Advice that consumers are offered about reverse mortgages is mostly about why they should get one, rather than an accurate accounting of the actual costs and specific terms involved. Each senior is different and will have different needs. I strongly advise getting a competent, independent professional to analyze the specific loan terms and costs. There are some scenarios in which a reverse mortgage is the right choice for the right reasons. But used incorrectly they can create much worse financial problems down the road.
2. Reverse mortgages could further destabilize home prices in a market where there are too many of these loans.
Bank of America and Wells Fargo have pulled out of the reverse mortgage business, citing concerns over home values that could deflate further in the years ahead. If some economists are right, this is exactly what will happen. But many lenders see as much as 1 TRILLION dollars in potential reverse mortgage business as boomers retire. That is a LOT of motivation for an industry that lives on commissions. If home prices are forced down by something silly like, oh, what? — maybe a few million more homes that are underwater — it could require the mother of all taxpayer bailouts.
In individual states, the numbers of reverse mortgages being taken should be closely monitored by local real estate professionals and mortgage lenders, to help maintain a balanced market.
Excessive numbers of reverse mortgages in concentrated areas would have a very negative effect on home values in that local market. Some states have a very high population of seniors. Florida is the perfect example. Their housing market has been on life-support for years. Add another few hundred thousand underwater homes with reverse mortgages, whose loan balances are growing ever higher, and you’ve got a recipe for disaster.
3. Reverse Mortgages come with lots of fees and interest rates that are higher than the average rate for a purchase mortgage.
And the interest on the loan continues to accrue against the total value of the property. Borrowers who fail to “die on time” could end up with negative amortization – owing more than the property is worth. And when these borrowers do start dying in large numbers reverse mortgages could quickly lead to a large number of properties with high loan balances hitting the market all at once.
4. Reverse Mortgage marketing programs may also offer some type of investment vehicle:
One that presents some supposed benefit for the borrower. It’s a program that allows you to borrow money against the value of your home, and then put that borrowed money in some program that sounds like a smart investment. But beware – never take the word of anyone who stands to make a commission on your loan or your investment. It’s always smart to have a third party, someone like an accountant or an attorney review the documents so that you can get some sound advice from an independent source. The only real way to control the growth of reverse mortgages is for seniors and their families to carefully consider this decision, instead of letting the media make you believe it’s a smart decision.
And finally, here is a nice little run-down on reverse mortgages, courtesy of the Minnesota Attorney General’s office, who wrote a nice article detailing basics of these loans, as well as some of the scams that they have seen associated with reverse mortgages. If you happen to see Fred, Henry or Robert, please ask them to read it.
About the author: Donna S. Robinson is a 18 year veteran of the real estate industry, with experience as a rehabber, wholesaler, investment analyst, rental property manager, owner, licensed agent and residential real estate market expert. She coaches real estate investors to improve cash flows while reducing risk. She has authored numerous books and courses on real estate market fundamentals and investing strategies. Follow her on twitter @donnaconsults Watch her videos here, and read more articles and contact her about coaching services on her website.