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Senior Moment or Good Idea?
As baby boomers age, reverse mortgages are expected to gain popularity as a means of covering living expenses. Which means later on when/if the homes are passed on to children, they will then be responsible to pay that mortgage. A reverse mortgage, is a loan. Homeowners, age 62 or older, borrow against the equity in their home and do not have to make any payments until they sell the home or die, which frees homeowners from monthly payments. Interest and monthly insurance premiums are charged throughout the life of the loan, and the total becomes due when the borrower dies (or permanently moves out of the home).
For many, a reverse mortgage has become the solution they needed. Reuters reports that, according to Inside Mortgage Finance, consumers took out $15.3 billion in reverse mortgage loans in 2013. This is up 20% the from the year before. With 77 million baby boomers retiring, it is believed further growth in this type of loan could be expected in coming years. Home loans in general have been in decline, so both bankers and brokers will continue to pay attention to the demand for reverse mortgages.
Federally insured reverse mortgages, officially issued as part of the Home Equity Conversion Mortgage program, are a way for homeowners 62 and older to borrow money using their home equity as collateral. The proceeds must first be used to pay off any remaining balance on the mortgage, But at this point in time, most bigger lenders are uncomfortable with the loans—for example, in 2011, Wells Fargo & Co and Bank of America backed out of the business. Wells has cited factors including unpredictable home values and the level of delinquencies as reasons for it to stay away from reverse mortgages.
The government agency that guarantees these loans, the U.S. Federal Housing Administration, found them to be also to be risky. Losses on reverse mortgages were a big reason for the agency's $1.7 billion taxpayer bailout last year - and some experts worry it could end up in similar trouble again. "The FHA is at risk from these loans, and the taxpayers are at risk too," said James Bothwell, a consultant and former chief operating officer of the Federal Home Loan Bank system. "As with any mortgage product, there is risk to financing a loan, but we have made, and continue to make, significant efforts to mitigate that risk," both when making loans and when recovering money at the end of the loan, said Melanie Roussell, a spokeswoman for U.S. Department of Housing and Urban Development. The FHA is part of the department.
Check out: What to Know About FHA Loans
What makes these loans potentially dangerous for lenders and the government also makes them attractive for borrowers: a homeowner who is at least 62 years old gets a lump sum of money, a line of credit, or monthly income from their reverse mortgage, and potentially does not have to repay the loan for decades. During those years, the loan accumulates interest, which is currently just above 55 for a fixed-rate loan. When it is time to pay off the loan, the home may not be worth enough to cover the debt, leaving the FHA with losses. Since reverse mortgage lending volume is still small compared to the $9.4 trillion U.S. mortgage market, the risk to the financial system is manageable, analysts said.
Loans that the FHA guaranteed were massively hurt after the financial crisis as home prices dropped more than 30% nationally. But the agency suffered extremely large losses on reverse mortgages. Reverse mortgages can hurt lenders and guarantors because they depend so heavily on home prices for repayment.
During stable times, regular mortgages are made based on the borrower's ability to repay, with foreclosure and sale of the home in case the borrower defaults. For reverse mortgages, the collateral-the home, is just about all the lender can rely on. Home prices, which are still below their 2006 peaks, have been rising in the past couple of years, and economists do not see much risk of a significant drop in the near term.
To help reduce its risk, in April 2013 the FHA limited the amount a homeowner can borrow as a lump sum to 60% in the first year, up to the maximum cap of $625,500. The limit used to be 100%. The FHA is also creating new rules that will require lenders to make sure a borrower can pay for taxes, insurance, and upkeep on their home.
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