Reverse mortgage can be a burden
John Collett
June 4, 2011
Borrowing money against your house can be risky, writes John Collett.
For cash-strapped retirees whose wealth was decimated by the global financial crisis, a reverse mortgage may seem like an easy solution. But the loan product can balloon over time and wipe out much of the equity in their home.
Also known as ''equity-release'' products, reverse mortgages target the over 60s who are asset rich but income poor and who feel they may have little alternative but to borrow against their homes to access cash.
As no repayments are made on the loan, the interest and fees are capitalised and can eventually leave little or nothing for the estate, especially when the
loans are taken out over long periods.
The loan is only repaid to the lender when the home is sold, usually when the owner goes into a retirement home or aged-care facility - or it is repaid from the estate when the owner dies.
But consumers may be better off looking for alternative solutions - perhaps downsizing into a smaller home and looking at Centrelink's options (see box).
There are about $3 billion in reverse mortgages, compared with $1 billion only five years ago.
While the loans can work well for some consumers - particularly those without children - the product needs to be fully understood before being entered into, says the principal solicitor of the Consumer Credit Legal Centre (NSW), Katherine Lane. ''It is a serious decision that could be very costly, could affect your ability to enter a retirement village and could cause family squabbles,'' Lane says.
Retirees need to check beforehand whether they will have sufficient money left for an aged-care accommodation band and what impact a lump sum will have on any Centrelink benefits.
Ballooning debt
Weekend Money used the reverse-mortgage calculator of consumer group Choice to show how a reverse-mortgage debt can balloon over a long period of time.
Assume two 65-year-olds whose house is paid off and worth $1 million take a reverse mortgage at 9 per cent. The couple borrow about the maximum allowed by most lenders: $200,000.
We assume the house is sold in 20 years' time and its value grows at 4 per cent a year.
The projected value of the house is $2,191,123 and the outstanding debt is $1,223,685, leaving $967,438 in proceeds from the sale, or 44 per cent of the value of the house.
If $300,000 is borrowed and everything else is the same, the debt rises to $1,828,516 in 20 years' time and 16 per cent of the house value, or $362,607, is left.
It is important to understand that lower house-price growth, higher interest rates or a longer time frame would leave even less to the estate.
Impact of GFC
The better providers of reverse mortgages and those that are members of industry body SEQUAL (Senior Australians Equity Release Association of Lenders) have ''no negative-equity guarantees''; meaning that when the house is sold and the proceeds do not cover the outstanding debt, the lender carries
the loss.
But there are some conditions in the contract, such as maintaining and repairing the property to a standard required by the lender that, if not met, may void the ''no negative-equity guarantee''.
Data provided by SEQUAL shows the average loan size taken out by couples last year was $76,000 nationally but that average is likely to be higher in capital cities with higher house prices.
Abrdiged
SOURCE: SMH.COM.AU
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