Financial advisers should love reverse mortgages. After all, older clients who may be strapped for cash — and many are — can use a reverse mortgage to tap the equity in their homes rather than raid their investment portfolios. For fee-based advisers, a reverse mortgage could preserve their bread and butter.
Despite the apparent self-interest in promoting them, however, advisers almost universally consider reverse mortgages too costly and rarely recommend them to their elderly clients. In fact, they advise clients to exhaust all other options before even considering them.
“Reverse mortgages have a bad image — and they deserve it,” said George Middleton, a financial adviser with Limoges Investment Management PC.
“The problem is the cost. We recommend clients spend down their investments first,” he said.
“Your home should be the absolutely last asset you tap,” said Joseph Duran, chief executive of United Capital Financial Partners Inc., which manages $13 billion in assets.
David Marotta, president of Marotta Wealth Management Inc., which manages $200 million in assets, puts it in more personal terms.
“I would be embarrassed if a long-term client ever got to a position where they needed a reverse mortgage,” he said. “It represents a failure to plan adequately for longevity in retirement, and it's a last resort when you need income and have no other options.”
That pretty much sums up the common wisdom among advisers on the subject. Yet with or without their blessing, reverse mortgages are likely to go mainstream. That means advisers will have to reconsider their merits and, at the very least, be prepared to discuss these products knowledgeably with clients, who will be hearing more about them.
Over the next few years, a whole lot of baby boomers — the first of whom will be turning 65 this year at the rate of 10,000 a day — may have few options in retirement. Consumer surveys regularly confirm that people entering or approaching retirement are ill-prepared. Their homes represent their largest — and sometimes only — asset. Given the paltry returns on savings instruments and a
Social Security program that may not be as generous as in the past, tapping the equity in their homes may be the only way for seniors to maintain any semblance of a normal lifestyle. In this context, reverse mortgages may represent a lifeline for many Americans and soon could become a crucial retirement tool.
“The big picture is that we have a population with shrinking pension plans, low savings rates and that is living significantly longer,” said David Certner, legislative-policy director for the AARP. “It's a bad combination.”
A reverse mortgage allows homeowners to receive lump-sum payments, streams of payments or lines of credit, based on the amount of equity they have in their homes. Unlike traditional mortgages and home equity lines of credit, there are no monthly payments to make, and neither credit scores nor the homeowner's income — or lack thereof, is an issue. The loan is backed by the value of the property and does not have to be paid off until the borrower and/or his or her spouse dies or moves from the home. For people over 62 with little income, a reverse mortgage may be the only means for them to remain in their homes.
The flexibility and convenience of reverse mortgages don't come cheap. The origination fees, capped at $6,000 last year by the Department of Housing and Urban Development, are now 2% for the first $200,000 in loan value and 1% above that amount. Closing costs for the transaction run 2% or more. Add in another 2% of the loan value for mortgage insurance provided by the Federal Housing Administration, and the initial transaction costs alone can run more than 6% and as high as 10% of the loan value. The interest rate on the FHA-insured loan is much lower than on a private loan, and the amount that can be borrowed is much larger. However, with the interest compounding annually either way, the cost of money received through a reverse mortgage is high.
MISSING THE POINT
Jeff Lewis, CEO of Generation Mortgage Co., the largest independent provider of reverse mortgages in the country, doesn't dispute that the cost of money from a reverse-mortgage contract can be high. But he said that advisers miss the point.
“If someone can afford the payments on a home equity loan or a traditional mortgage, they should do that. It's a cheaper source of money than a reverse mortgage,” Mr. Lewis said.
His customers, however, typically don't have the means to service those loans. What's more, he said, reverse-mortgage lenders such as his company are assuming the risk that a property value may decline substantially and that homeowners may live much longer than they expect.
“The contract locks in the value of the house, and that put option is worth something,” he said. “It is also effectively a life annuity contract and provides a hedge against longevity.”
Mr. Lewis also takes issue with the idea that people should use up all their other assets before considering a reverse mortgage. If people don't expect their savings to last the length of their retirement, they should tap their home equity before they exhaust those resources, he said.
“If people are taking money out of liquid retirement accounts like IRAs and 401(k)s, they're going to pay taxes on that money and it's no longer going to be earning a return for them,” Mr. Lewis said. “They are drawing down their performing accounts versus their non-performing accounts. They should be considering reverse mortgages as a first resort — not a last.”
Tom Ciallella, a retired health care worker in Encinitas, Calif., took out a reverse mortgage from Generation Mortgage last year and said the lump-sum payment enabled him to pay off an existing mortgage and is serving as a bridge for him until Social Security and pension payments from his former employer kick in this year.
Mr. Ciallella had limited voluntary retirement savings on which to draw, so he had to tap the equity in his home. “I researched this thoroughly and I saw it as the best way to protect my quality of life,” he said.
Rick Kahler, president of Kahler Financial Group Inc., feels reverse-mortgage lenders are offering a valuable service for people but still advises his clients to spend their other assets before considering the option.
“If you draw on [home equity] too early, you can extinguish your line of credit and outlive your equity,” said Mr. Kahler, who manages $135 million in assets. “What do you do then? As a financial planner, I feel a little queasy with the situation.”
E-mail Andrew Osterland at [email protected].
