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Monthly Archives: May 2019

FINRA’s NEW Stance On Reverse Mortgage — “use the loan wisely”

RETIREMENT RESEARCHER

FINRA is the Financial Industry Regulatory Authority. It is a self-regulatory body for financial brokers and brokerage firms. As a part of its efforts to protect consumers, it issues alerts and reports on a variety of financial issues, including reverse mortgages. FINRA’s stance on them is described in a report entitled, “Reverse Mortgages: Avoiding a Reversal of Fortune.” This is a cute and clever title that clearly casts negative connotations on these mortgages, leading many financial advisors and financial broker-dealer firms who receive guidance from FINRA to conclude that reverse mortgages are a bad idea and do not allow their affiliated financial advisors to discuss reverse mortgages with their customers.

Reverse Mortgages: Avoiding a Reversal of Fortune

Update: The Department of Housing and Urban Development (HUD) recently made changes to Home Equity Conversion Mortgages (HECMs), which make up the majority of reverse mortgages in the U.S. We are reissuing this alert to reflect those changes, and to reiterate that while reverse mortgages can help seniors manage their finances if used responsibly, they come with costs and risks.

If you are in your sixties, and own your home, chances are you have heard about reverse mortgages—or will soon. Reverse mortgages can be helpful to homeowners who want to stay in their homes but are having trouble keeping up with their mortgage payments, or who have no other source of funds to pay bills or meet unexpected expenses. But as more Americans near retirement age, some financial institutions are aggressively marketing reverse mortgages as an easy, cost-free way for retirees to finance lifestyles—or to pay for risky investments—that can jeopardize their financial futures.

FINRA is issuing this Alert to urge homeowners thinking about reverse mortgages to make informed decisions and carefully weigh all of their options before proceeding. And, if you do decide a reverse mortgage is right for you, be sure to make prudent use of your loan.

What is a Reverse Mortgage?

Older homeowners who want to tap the equity in their homes typically have three options. They can sell their house and downsize, take out a home equity loan or consider a reverse mortgage. A reverse mortgage is an interest-bearing loan secured by the equity in your home. To be eligible, you and any other co-borrowers, such as your spouse, must own your home and be 62 or older—although some lenders offer reverse mortgages to individuals as young as age 60.

Like a home equity loan, a reverse mortgage allows you to convert your home equity to cash that you can use for any purpose. Unlike other home loans, however, homeowners make no interest or principal payments during the life of loan. The interest is added to the principal, which is why reverse mortgages are often called “rising debt” loans. Unless you opt for a fixed-term loan, the loan only becomes due when you die, sell your home to move or otherwise leave your home for more than 12 months—for instance, if a health issue requires you to enter a nursing home.

If any of those events occur, you or your heirs must repay the loan, including compounded interest, in full. Normally, that means the house must be sold, and the loan will be paid back from the proceeds of the sale. Because interest will have been accruing during the life of the loan, you will likely owe more than you borrowed—and if home values have fallen or you live longer than expected, you may even owe more than your house is worth. But since reverse mortgages are non-recourse loans, the worst that will happen is that you or your heirs will receive nothing from the sale of your house. The lenders cannot go after any other assets that you or your heirs own.

Recent Changes to FHA Reverse Mortgage Loans

Home Equity Conversion Mortgages, or HECMs, are administered by the Federal Housing Administration (FHA) and make up the majority of reverse mortgages in the U.S. The loans are insured by the federal government against default by a lender (the borrower pays a fee for this protection). The Housing and Economic Recovery Act of 2008 made significant changes to FHA reverse mortgages and how they are sold. For example, the law allows seniors to use a reverse mortgage to purchase a new home (called a “reverse mortgage for purchase“). It also mandates counseling for all FHA reverse mortgages.

Additional changes resulted from the Reverse Mortgage Stabilization Act of 2013, which authorized FHA to change the HECM program. FHA replaced the Standard and Saver HECM options with a single program that is different in a number of ways. For one, it adjusted the maximum loan amount. Based on a formula tied to the borrower’s age and current interest rates, this new maximum is less than the previous HECM Standard, though slightly higher than the HECM Saver option. There are also new limits on the amount homeowners can borrow at closing and during the first 12 months. This new limit is 60 percent of the maximum loan amount, though making repairs or paying off an existing mortgage may constitute “mandatory obligations” that could allow for additional borrowing. And lenders are now required to perform a financial assessment of the borrower before a HECM loan can be approved. Part of the assessment is a detailed credit check.

Beyond HECM Loans

Non-HECM single-purpose reverse mortgages may be offered by some states, local governments and non-profit organizations for specific objectives such as home repairs or the payment of property taxes. There may be income restrictions accompanying these reverse mortgages, and they are not federally insured.

Banks and other lenders may also offer proprietary reverse mortgages, often called jumbo reverse mortgages. These are typically designed for borrowers with high-value homes. Proprietary reverse mortgages are not federally insured, and fees are not regulated as they are with HECM loans. It’s a good idea to work with a HUD-approved mortgage counselor if you are considering either of these non-HECM options (there may be a fee for counseling services).

Three Reasons to Be Cautious

First, reverse mortgages may seem like “free money” but in fact, they can be quite expensive. Like traditional mortgages and home equity loans, you will be charged interest, but interest rates for reverse mortgages are generally higher than these other types of loans. In addition, the fees and costs associated with reverse mortgages are often significantly higher, too—sometimes as high as 4-8 percent of the total loan amount. You can usually have these costs deducted from the loan amount, instead of paying for them out of pocket, but either way, you may end up with less cash than you expected.

Also, be aware that reverse mortgages must be the primary mortgage on your home, so if you have another mortgage already, you will have to borrow enough to pay that off, too. That may also reduce the amount of cash left for you to use.

Second, you are still the owner of your home and therefore responsible for property taxes, insurance and home maintenance costs. If you are not able to meet these obligations, the lender may have the right to foreclose on your home, leaving you in the worst possible situation—no place to live, and no more home equity to draw on.

Third, even if you can keep up these payments, you may get to the point that you want or need to move into a smaller home, or into an assisted living facility, for reasons other than cost. At that point, your loan will come due. With compounded interest due, you may be surprised to find out how much you owe, which may restrict your future housing choices.

Use Your Loan Wisely

Tapping into your home equity in your retirement years through a reverse mortgage is a very serious decision. Whether it is the right decision for you may ultimately depend on a number of factors—your health, your spouse’s health, other sources of income, the reason you’re tapping your home equity, when you do it and how wisely you use your loan proceeds. Unfortunately, some financial professionals who profit from selling reverse mortgages aggressively urge homeowners to obtain them even when they may not be necessary—for example, as a means to fund dream vacations, buy a second home or invest in risky or illiquid investments. In some cases, those who sell the mortgages may also profit from the sale of the touted investment, giving them twice the incentive to talk you into a loan you may not need.

When you obtain a reverse mortgage, you normally have several options for receiving the funds. You can take a lump sum payment, set up a line of credit that you can draw on as needed or set up regular periodic payments. Depending on your lender, you may also be able to set up a combination of these options. For example, you may decide to receive a portion of the loan amount in monthly payments, and leave the remainder as a line of credit that you can use for unexpected expenses.

Whichever you choose, make sure you use your loan wisely. Just because you don’t have to pay it back as long as you live in your home doesn’t mean you should treat it as “mad money.” Reverse mortgages were originally designed as a tool for allowing aging, low-income homeowners to keep their homes by providing a source of additional monthly income to meet expenses. But some lenders market reverse mortgages to younger retirees as a way to finance a more extravagant retirement lifestyle than they could otherwise afford. The trouble is, those same homeowners may need their home equity some day for something far more pressing than a vacation, only to find that it has already been spent.

If you are approached by a financial professional to do a reverse mortgage in order to fund a particular investment, keep in mind that all investments carry risk and costs—and the higher the promised return, the higher the risk. It’s best to steer clear of investments that are risky or underdiversifed—as well as those that make it expensive, if not impossible, for you to access your money if unexpected expenses arise.

Tips When Considering Reverse Mortgages

Weigh All Your Options. Does it make more sense to sell your house—and either downsize or rent while carefully investing the sale proceeds? Take out a home equity loan or line of credit? Can you consolidate credit card debts? Even if you are having trouble paying for your taxes or for home maintenance, there may be local government assistance programs that can help. Whatever your situation, ask your state agency on aging about less risky, or lower cost, ways to address your needs.

Understand the Risks, Costs and Fees. Just because you won’t be making any interest payments as long as you live in your home doesn’t mean the interest rate doesn’t matter. If you do decide to move, for whatever reason, you will have to pay back the loan plus compounded interest. The same is true if you have to leave your home, for whatever reason, for more than 12 months (and possible less if you have a non-HECM loan). Be sure to ask about all costs and fees, including any prepayment penalties.

Recognize the Full Impact of Your Decision. While you typically do not have to pay taxes on the proceeds of a reverse mortgage, the income or lump sum you receive could impact your eligibility—or your spouse’s eligibility—for various state and federal benefits, including Medicaid. In addition, depending on the laws of your state, a reverse mortgage may not enjoy the same home-equity protection that would otherwise apply if you have a health emergency and need to enter a nursing home—and your spouse must liquidate assets to pay for that care. Finally, a reverse mortgage is generally not the right choice for those who want to leave their homes to their heirs.

Get Independent Advice. Reverse mortgages are such complicated transactions that the federal government requires borrowers to meet with HUD-approved counselors before obtaining a federally guaranteed loan. (Most loans are federally guaranteed, but some lenders offer proprietary loans that are not.) Make sure that any counselor recommended by your lender is truly independent by asking whether he or she receives any funding from the lender or the mortgage industry. Even if you are applying for a loan that is not federally guaranteed, it is a good idea to get advice from a trusted financial adviser who has no interest in either the mortgage or any investment you plan to make with the proceeds. In any event, before you agree to a reverse mortgage, be sure to consult with legal and tax professionals who know the consequences of reverse mortgages for residents of your state and who are not connected in any other way to the transaction or the lender.

Be Skeptical of Reverse Mortgages as Part of an Investment Strategy. If someone urges you to obtain a reverse mortgage to make an investment or purchase an insurance product or a security, such as a deferred annuity, be very skeptical, particularly if they are promising high returns. In essence, they are encouraging you to speculate with your home equity, which you may need for more critical purposes down the road. Also consider what will happen if the returns turn out to be less than promised, or worse, you lose the principal. If you cannot sustain that kind of low return or loss, you should probably not be making the investment with your home equity.

Ask the Right Questions About the Proposed Investment Strategy. Reverse mortgages can be an extremely costly way to fund an investment. Before you obtain a reverse mortgage for investment purposes, make sure you understand both the terms of the loan AND the terms of the investment. What fees must you pay, directly or indirectly, for the reverse mortgage? What are the costs and fees associated with buying the investment? With selling it? How easy will it be to get your money out if you need it suddenly? Does the investment have a long surrender or lock-up period? What is the potential downside? Is it marketed and sold by the same person or entity that is offering the reverse mortgage? How is the reverse mortgage broker compensated? How is the seller of the investment compensated?

The Bottom Line

Home equity is often a homeowner’s most valuable asset, and most precious source of retirement security. Reverse mortgages can be a useful tool for certain older Americans who might otherwise face losing their homes. But homeowners should consider all the risks and explore all of their options before taking out a reverse mortgage, and even then, should use the loan funds wisely.

 

For more information, download our Reverse Mortgage 101 Cheatsheet 

However, while its title has not changed, the report itself has evolved over the years. It used to tell investors to consider reverse mortgages only as a last-resort option, but after Barry Sacks published his research, he convinced FINRA to remove that language.

The current version of the report provides three reasons to be cautious about reverse mortgages. First, FINRA warns that reverse mortgages may “seem like ‘free money’ but in fact, they can be quite expensive.” The report mentions the up-front costs and ongoing interest on the loan balance.

Second, the report mentions that reverse mortgages must be the primary mortgage on the home. This is not really a reason to be cautious, but the report points out that after paying off an existing mortgage from the initial principal limit, borrowers may have less access to cash than they had anticipated.

Next, the report reminds investors that they are still responsible for property taxes, insurance, and home-maintenance costs. Finally, the report reminds borrowers that the loan will become due should they decide to move out of the home. With accumulated interest, borrowers might be surprised about the amount of home equity that they have left after repaying the loan.

The report then reminds borrowers to use the loan wisely rather than for frivolous expenses. As I have focused on using home equity as part of a responsible retirement-income plan, hopefully, this point is clear already. Nonetheless, it is worth providing a quotation from the report that drives home this point: “Those same homeowners may need their home equity some day for something far more pressing than a vacation, only to find that it has already been spent.”

The report ends with some tips when considering reverse mortgages. First, weigh all your options. Besides a reverse mortgage, other options include selling one’s house to downsize or rent, using a home-equity line of credit, or seeking local-government assistance to help cover property taxes and home maintenance. Next, understand the costs and fees of the loan. Third, recognize the full impact of the reverse mortgage, such as the impact of loan proceeds on state and federal benefits such as Medicaid.

This section continues with the sentence, “Finally, a reverse mortgage is generally not the right choice for those who want to leave their homes to their heirs.” However, this language probably should also have been removed following the implications of Barry Sacks’s research. Since money is fungible, the report’s statement is wrong when coordinated strategies can create synergies for the investment portfolio to manage sequence risk that leads to a larger overall legacy after repaying any loan balance.

The next FINRA tip is to obtain independent advice through loan counseling, particularly if one is considering a proprietary reverse mortgage that is not part of the HECM program. Finally, its last two points are about being skeptical about using reverse mortgages as a way to fund an investment or insurance product. I hope I have been clear that this is not a valid use of a reverse mortgage. I have discussed coordinating the reverse mortgage with an existing portfolio or using a reverse mortgage to continue to pay premiums on an existing long-term care policy, but I have not suggested that a reverse mortgage be used to fund new investment or insurance products.

This is an excerpt from Wade Pfau’s book, Reverse Mortgages: How to Use Reverse Mortgages to Secure Your Retirement (The Retirement Researcher’s Guide Series), available now on Amazon

Wade Pfau: Professor at The American College and Principal at McLean Asset Management. His website:  www.RetirementResearcher.com

I’m a Professor of Retirement Income at The American College in Bryn Mawr, PA. I also serve as a Principal and Director for McLean Asset Management, helping to build retirement income solutions for clients. My research article on safe savings rates won the inaugural Journal of Financial Planning Montgomery-Warschauer Editor’s Award, and I actively publish research on retirement topics in a wide variety of academic and practitioner research journals. I also write about retirement income at my Retirement Research blog. I’ve contributed to the curriculum of the Retirement Income Certified Professional (RICP) and the Retirement Management Analyst (RMA) designation programs for financial advisors, and I am a frequent speaker about retirement income at national conferences. I am a CFA charterholder and hold a doctorate in economics from Princeton University.

“Don’t Ignore Reverse Mortgages”, says another financial planner

MAY 8, 2019 

Clients who risk running out of money in retirement can likely benefit from a reverse mortgage, especially if they take out the mortgage early in retirement, according to Christopher Mayer, chief executive at mortgage lender Longbridge Financial, and Wade Pfau, professor of retirement income at The American College.

Home equity can be tapped to pay off existing mortgages, mitigate sequence-of-return risks and shore up retirement plans that might otherwise be at risk of failure, Pfau and Mayer said Wednesday at the FPA Retreat in La Jolla, Calif.

But reverse mortgages can be a tough sell, given shady practices used by some insurance agents to use reverse mortgages to raise money for other products.That may be why only 6 percent of seniors are interested in a reverse mortgage, even though  78 percent own a home.

“But by not talking about it, you’re leaving your clients fundamentally unable to achieve their goals,” Mayer said.

Reverse mortgages can tap 40 percent to 70 percent of a senior homeowner’s equity via a line of credit, a monthly payment similar to an annuity, a lump sum, or a combination of those options. Repayment is due when homeowners have been out of the home for a year, and they have no liability beyond the home value for repayment.

The most common use of loan proceeds is to pay off an existing mortgage. “You’re taking away that fixed [mortgage] payment and moving that to the end of retirement” when the reverse mortgage is paid off, Pfau said. That can help overcome a sequence-of-returns problem early in retirement, and significantly enhance the legacy value of the client’s estate.

In contrast to reverse mortgages, traditional home equity lines have mandatory repayment requirements, are fully amortized after 10 years (not ideal for an aging retiree), and can be cancelled by lenders just when a borrower might need cash to avoid draining a shrunken portfolio, Pfau and Mayer said.

They also stressed that retired clients will benefit by taking out a reverse mortgage early, rather than draining assets first. One reason is that the credit line grows at the interest rate being charged.

“This is the most confusing aspect” of reverse mortgages, Pfau said. The growing credit line is “divorced from the home value.”

If you are 62, wrestling with debt and questioning the use of a Reverse Mortgage, you should consider talking with me”, says Warren Strycker, owner of Gofinancial.net and veteran HECM financial professional. “It won’t hurt to open up your stubborn streak, and you won’t have to do anything you don’t want to,” adds Strycker. “Yes, I’ve been around the block with reverse mortgages and you’ll see soon enough what I’m talking about.”

What the Critics Get Wrong About (HECM) Reverse Mortgages

Robert C Merton explains how Reverse Mortgage is wise for families

Why Your Retirement Plan Should Include a Reverse Mortgage — Financial Planner transcript

Should you consider a reverse mortgage for retirement? Experts at TheStreet’s Retirement, Taxes & Income Strategies Symposium discuss the pros and cons.

Julie Iannuzzi  and Justin Ho

Apr 24, 2019 8:24 AM EDT

mortgage digital concept

https://www.thestreet.com/video/reverse-mortgage-for-retirement-planning-14923039

Steve Resch, Financial Planner.

VIEW TRANSCRIPT (see below)

Retirement is filled with all sorts of risks including longevity, inflation, unexpected health care needs and costs, sequence-of-return risk and the list goes on.

To be sure, no one product or strategy can manage or mitigate all the risks that you may face in retirement. But a reverse mortgage can be used to manage many of the risks one might face in retirement.

Reverse mortgages was the subject of a panel discussion at TheStreet’s Retirement, Taxes & Income Strategies Symposium, held recently in New York.

“I honestly think that that’s one of the best uses of a reverse mortgages, is to actually help mitigate those risks,” says one of the panelist Steve Resch, Vice President – Retirement Strategies, at Finance of America Reverse.

TheStreet’s moderator and editor of TheStreet’s Retirement Daily sat down with Resch after the panel discussion. Resch says anything that is going to disrupt or interrupt a planned 30-year retirement period can be mitigated by incorporating home equity and a reverse mortgage in particular into a retirement-income plan

(SEE THIS VIDEO TRANSCRIPT BELOW).

Some risks in particular that can be managed and mitigated with a reverse mortgage include sequence-of-returns, long-term care expenses and unexpected expenses.

Related Retirement Daily Content: Biggest Myths About Medicare and Long-Term Care

VIDEO TRANSCRIPT:

Robert Powell: 
Welcome, Steve.

Steve Resch: 
Thank you, Bob.

Robert Powell: 
If you don’t mind, start by giving us a little bit about yourself, your title.

Steve Resch: 
Sure.

Steve Resch: 
I am vice president of retirement strategies with Finance of America Reverse. And basically what that means is that for our company, I go around the country talking to financial advisors about using reverse mortgages in the retirement planning process.

Steve Resch: 
I’m also a financial advisor. I’m a partner in a firm I started 25 years ago, and I’ve been using reverse mortgages in my planning practice for about 15 years now as well.

Robert Powell: 
So we just concluded a panel discussion about all the risks that people might face in retirement and the tools that they might use to mitigate and manage some of the risk. So talk a little bit about how maybe reverse mortgages play in terms of their use and value in managing these risks.

Steve Resch: 
I honestly think that that’s one of the best uses of a reverse mortgages, is to actually help mitigate those risks. From my perspective, it’s anything that is going to disrupt or interrupt a planned 30-year retirement period can be mitigated, hopefully, with some incorporating home equity in that planning process. So we look at risks such as sequence of returns.

Robert Powell: 
Which is?

Steve Resch: 
Which is if your investments are not performing the way you anticipate them doing, why would you sell out your investments if you need cash flow when you could have an alternative income source, and that would be using home equity as an alternative income. So we can mitigate risk using home equity and that sequence of returns risks, using home equity for that.

Steve Resch: 
There’s other risks, such as long-term care expenditures. A lot of people may have long-term care plans in place, but we don’t know if that’s going to be sufficient or enough for them down the road. So having an available access to home equity to mitigate that risk is, in my opinion, better than having to draw excess funds from their portfolio to fund that risk.

Steve Resch: 
So long-term care events, sequence of returns, then there’s also simply unexpected expenses. For example, I had a client who called me and they said that their son-in-law just up and left their stay-at-home daughter and her three children, and left them in a terrible financial mess, and they needed money to help them out. So the question is do you risk your future asset growth and your distribution plan that’s already in place to help out in this emergency situation, or do you incorporate home equity, let that be used to help the family, and there’s no payments required using that as well. So they have the money to help the family without changing their household cashflow situation.

Robert Powell: 
Alright.

Robert Powell: 
Talk a little bit about the requirements that need to be met in order to actually get a reverse mortgage.

Steve Resch: 
Well you have to be 62 or older to get it.

Robert Powell: 
And that would be both spouses?

Steve Resch: 
Yes, but there are protections now if you have a spouse who is not 62. So the non-62 person on title would not be on the loan. However, if the borrower died, the non-borrower could remain in that property for the rest of their life without having to pay any payments as well. So they’re not forced out. So this is a protection that’s been put in place.

Steve Resch: 
But you do have to be 62 or older, it has to be your primary residence that you put this reverse in place on.

Robert Powell: 
Right. And you have to take some educational training courses.

Steve Resch: 
Yes. And that’s another thing that’s a very important. It’s a safeguard that has been put in place. There’s always been counseling required ever since FHA got involved in 1988, but the counseling has been greatly intensified. So the counselors have full control on whether you can get a reverse mortgage or not. They have to give you a certificate. And if they don’t feel you understand the program, if you don’t understand what you’re doing, they will deny you that certificate, and you would not be able to get a reverse mortgage.

Robert Powell: 
And there’s a limit on how much you can actually get in your reverse mortgage relative to the value of the home?

Steve Resch: 
Yes. The amount you can get is based on your age and the value of the property, and there’s a percentage of that. The lenders do not control that. As far as the FHA products go, HUD controls that. It’s a formula set by HUD.

Steve Resch: 
We also have proprietary reverse mortgage products, and those loan to valuations are set by the lender.

Robert Powell: 
Right. So years ago, there wasn’t much research, there was no body of knowledge around reverse mortgages.

Steve Resch: 
Correct.

Robert Powell: 
Today, there’s a great deal of research and espousing strategies that make it more accessible to folks in terms of sequence of return risks.

Steve Resch: 
Right.

Robert Powell: 
The one study that I’ll mention is the one that referred to the notion that it would be good to get a reverse mortgage at age 62 with a line of credit, and and use it when their sequence of return risk exposure, and pay it back when the market comes back up.

Steve Resch: 
Right.

Robert Powell: 
Talk a little bit about that strategy.

Steve Resch: 
And actually by putting in place at age 62, what you’re doing is growing and compounding that line of credit at an earlier age, because the line of credit grows and compounds at the same rate as your cost of funds. So the earlier you put this in place, the greater your line of credit will be down the road. So then it’s in place so that when you do retire, whether you retire at 66 or 70 or whatever it is, you have this available funds to manage those sequence of returns risk, which would be if the investments are underperforming at the time you start a distribution plan, your better option would be leave your investments alone, take your needed funds that you were going to take from your investments out of your home equity, let your investments recover, and then draw on those later down the road when they’re in a better position.

Robert Powell: 
So another common use, I think, of reverse mortgages is the notion that many people want to age in place, age in their home, and many homes are not age-friendly, and the ability to put in place universal design is one way to tap into home equity and not necessarily have to move out.

Steve Resch: 
Exactly. Yes. And setting up your home to be a accessible or senior-friendly is expensive, and if you have someone who is in that home and they want to stay there, and they’ve got their investments and their distribution plan is in place, the question is how do you effectively fund the renovations that are needed for this home without disrupting that portfolio and your distribution rate.

Steve Resch: 
So again, it’s an opportunity to have the home take care of that, mitigate that risk of drawing down too much money from your investments.

Robert Powell: 
Any do’s and don’ts that you might recommend?

Steve Resch: 
The one thing that I will tell my clients too when we’re considering a reverse mortgage is to not really put it in place unless it’s with a home that you intend to stay in. If you’re only going to be in that home another five, six years or whatever, if your thought is, “I’m going to move to Florida in the next five years,” don’t put a reverse in place now, because it really is a long-term planning tool for someone who wants to age in place in that home.

Steve Resch: 
There’s costs involved, and so you don’t want to incur a lot of costs when you’re only going to be there for a short period of time. But you can, however, use a reverse to purchase a new home as well, and that’s a great opportunity. I know a lot of times when you are even downsizing, if you’ve been in the home a long time, even downsizing will cost you more money. So this is a great opportunity to get into the home that you want without having to drain excess capital from your resources.

Robert Powell: 
I’m told that the new term is rightsizing.

Steve Resch: 
Rightsizing. Exactly. It’s rightsizing. Yes, it’s rightsizing.

Steve Resch: 
I have people who have actually moved up in size, but they liked the home better, and it was better laid out for them. So yes, it is rightsizing.

Robert Powell: 
So other mortgages, there are jumbos available in the reverse mortgage market?

Steve Resch: 
Yes there are. This is pretty new, this started in the past couple of years. In fact, our company has been in the forefront of developing new proprietary products. They are for jumbo properties. They are not FHA-insured. The lender takes the risk, but they are still no-recourse loans just as the FHA-insured products are. But these are for loan amounts up to $4 million that we can do. We have multiple options on them, including options with a line of credit, options with flex pays so you can take your money out of your home over a period of time, rather than all at once.

Steve Resch: 
So I think this is a new wave that we’re going to be seeing is more and more development of proprietary products, just to help fill in the gaps that the FHA-insured products don’t always cover.

Robert Powell: 
Right. So a jumbo would cover from a minimum of say what?

Steve Resch: 
Well it depends on what you’re looking at. For example, the jumbo products that we have will cover a non-FHA-approved condominium that is at least $500,000, where FHA products are up to $726,000. So it depends on where you’re looking and what type of property. But I would say for the most part, probably $800,000, $900,000 and higher, you could maybe look at a jumbo product. They’re not available in all states yet. We have to be approved in each state, but we’re working on that. We’re doing very well.

Robert Powell: 
Great. Thanks, Steve, for joining us.

Steve Resch: 
Okay. Thank you. Thanks for having me.

Retirement is filled with all sorts of risks including longevity, inflation, unexpected health care needs and costs, sequence-of-return risk and the list goes on.

To be sure, no one product or strategy can manage or mitigate all the risks that you may face in retirement. But a reverse mortgage can be used to manage many of the risks one might face in retirement.

About “Sequence of Returns Risk” in the HECM discussion

Financial advisors increasingly recommend Home Equity Conversion

Retirement Planning Steps For Everyone; Consider income

 

Merton: Reverse Mortgages are powerful, yet largely untapped

by Robert Huebscher,

Editor’s note: “With lots of talk these days about seniors running out of money in retirement, the following seems apt for input. For those with significant home equity, there’s a lot more money in the hopper to use. The questions are about the ethics of using the money you have. In time, that discussion will go mute when bills come due without enough income. That time is coming and so far there is nothing coming to stop it,” Warren Strycker, veteran financial professional.”

“You can improve your standard of living”, Merton

Target-date funds are an exceptionally bad way to save for retirement, according to Robert Merton. But, he said, reverse mortgages are a powerful – yet largely untapped – tool for retirees to improve their standard of living.

Merton is a professor of economics at M.I.T. and was awarded the Nobel Prize in economics in 1997 for his contributions to the Black-Scholes option-pricing model.

Merton spoke about target-date funds during his keynote speech on October 26 at the national conference for clients of BAM Advisor Services, a turnkey asset management provider for more than 140 wealth advisory firms known collectively as the BAM Alliance, held in St. Louis. In other venues (for example, here), he has spoken about reverse mortgages.

The idea that the design of target-date funds is based solely on one’s age doesn’t pass a “minimal test of common sense,” he said.

According to Merton, reverse mortgages will become a “key means” of saving for retirement.

Let’s look at Merton’s analysis of those two products.

The peril of target-date funds

For every retirement product, Merton said, the measurement of success should be income. Income is how one determines their desired standard of living. You don’t need a principal sum to live, he said. You need a certain level of inflation-adjusted income.

Everywhere, except in the defined-contribution (DC) world, retirement success is measured in income, he said. For example, pension plans measure success by their “funded status,” which in effect is the degree to which the plan can meet its participant’s projected income payments. But in the DC world, which includes target-date funds, success is measured as a principal target.

“You have to set a goal and measure the progress toward it the right way,” said Merton.

Target-date funds have a date, which Merton said “makes you feel good.” He reminded the audience, though, that the 2010-target funds still exist, which should cause one to question the meaningfulness of a fund’s target date.

More to the point, Merton said there are no goals in the prospectus of target-date funds; there is a process, which is the glide path. The date, he said, is the date that the process stops.

Technology has advanced, Merton said, and much more is possible in terms of providing customized advice and products. The downside is that complexity has increased, and so has the need for competent advice, according to Merton.

Target-date funds get more conservative by increasing exposure to fixed-income. But, Merton said, it matters what type of bonds they hold. If they put you in three-five year nominal bonds, for example, they don’t protect you against inflation.

Your chance of getting to a goal with a customized solution is much greater than with a generic solution.

His most strident criticism was that target-date funds lack customization and are based solely on one’s age (or, equivalently, the time to retirement).

“Imagine you got your medical advice by age, without respect to gender.” He asked rhetorically, “Would you settle for that for your prescriptions?”

“Why would think that it would be remotely possible that a single statistic – age – would be good enough to get you to a decent retirement?” Merton asked.

“To me that doesn’t pass the minimal test of common sense.”

That’s a good thing for advisors and the finance industry, he said. “If the answer using age was good enough, then this whole industry would have far too many resources devoted to it.”

“I’m not trashing target-date funds,” he said. “But why would you ever believe that age was good enough?”

The promise of reverse mortgages

Technology may have failed with respect to target-date funds, but Merton was much more optimistic about the promise of reverse mortgages. Indeed, he said technology underlies the promise of reverse mortgages. He said that belief is an outgrowth of the field of growth theory, for which the economist Robert Solow won a Nobel Prize. Solow showed that economic growth is not driven by population growth or high rates of saving, but by technological progress. Technology allows us to get more from labor and capital.

“One of the biggest global issues is how to fund retirement,” Merton said. “It is faced by every country – large and small.”

The good news is we are living longer and having longer active lives, Merton said. This is thanks to improvements in nutrition and medical science. The distribution of those benefits is not equal, he added, since the wealthy get a disproportionate share of those benefits.

Technology makes a solution possible, he said, and reverse mortgages are an important way that financial innovation can solve problems on a global basis.

The bad news, according to Merton, is that we must pay for our consumption while we work and during retirement. The implication of longevity means that we go from a 40-year working career and a 10-year retirement to a 40-year career and a 20-year retirement. The implication, approximately speaking, is that we must save 33% of our working earnings for retirement instead of 20%. Without reverse mortgages, the alternative, Merton said, is to reduce consumption or work longer.

If we can find ways to get more out of the assets we accumulate, Merton said, then we can enjoy greater longevity without sacrificing standard of living.

For the working middle class, the largest and sometimes only major savings and the largest single asset is the house in which they live, according to Merton. Reverse mortgages are ideally suited to un-tap that store of wealth.

However, Merton said, “reverse mortgage” is a terrible name. In Korea, he said, it is called a home pension. It is a practical way to use one’s house as a more efficient way to save for retirement.

In an agrarian economy, you gave the farm to your children and they looked after you. It does not work that way in an industrial economy, according to Merton. Houses get sold; children do not move in.

The house should be viewed as an annuity while you live in it and a financial asset that ultimately gets sold. A reverse mortgage gives up the financial asset when one doesn’t need it, in order to pay for other expenses during retirement that you do need.

Reverse mortgages provide liquidity based on the owners’ age and the value of house, in the form of a loan. Interest accrues on the loan. But no payments on loan are due until the owners leave the house.

Critically, Merton said, reverse mortgages are non-recourse loans. If the value of the house is less than the principal due at the time the owners move out, then there is no recourse.

In this sense, reverse mortgages are designed differently than traditional mortgage loans. Borrowers shouldn’t care about the rate of interest they will pay; their goal should be to maximize the amount of principal loaned.

Moreover, it doesn’t change one’s behavior. A reverse-mortgage user stays in their house.

“This is going to become one of the key means of funding retirement in the future,” Merton said.

The challenge, Merton said, is to implement it cost effectively and efficiently through communication and marketing. Funding is a challenge too, he added. “This is an engineering problem, not a science problem,” Merton said. “This can be done today.”

Also, Merton said a challenge remains in what one does when they get the principal. “If you spend it,” he said, “it defeats the purpose.”

One criticism of reverse mortgages is that it deprives one’s children of a bequest of the remaining value of the house. Merton’s response was that the potential for a bequest still exists with a reverse mortgage. It becomes more like a “lottery ticket” that is won under the most adverse circumstances (when one’s parents die). The children or heirs get an option (a call option) on the value of the house at the time of sale, to the extent that value exceeds the amount due on the reverse mortgage.

More broadly, though, Merton said retirees should place maintaining their own standard of living ahead of leaving a bequest. He said it is similar to the warning that airline attendants give with regard to the use of oxygen masks. They say to place the mask over your own mouth before that of your children.

“It doesn’t help if you can’t make it through retirement without your resources,” he said. “This is about having enough to have a decent retirement.”

Robert C Merton explains how Reverse Mortgage is wise for families

“Warming up to HECM mortgages”, Mike Taylor

“One specific asset that needs to be tapped, is the house.”, says Merton

HECM is key means of funding retirement — credibility scores

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(Warren Strycker). I am no longer affiliated with MCM Capital or Patriot Lending of Miami Lakes, FL.

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