What if you could turn the equity into your home into an annuity-like product that paid you and your surviving spouse a fixed monthly payment for the rest of your lives? Now, imagine you can do this and continue living in your home as long as you're able. Finally, wouldn't it be nice if the federal government insured the transaction and guaranteed your monthly payments?
The prospect is attractive because most surveys project baby boomers will face serious financial shortfalls in their retirement years. Accessing home equity in a safe and predictable way is often held out as one of the few ways consumers can add additional income in their retirement years.
As it turns out, these home equity payments already exist as features of the government's Home Equity Conversion Mortgage, which is insured by the Federal Housing Administration. The payments are available under a feature of the loans called tenure payments. These payments allow borrowers to convert a percentage of their home's value into monthly payments for the time, or tenure, they remain in their homes.
Tenure payouts are not actively marketed by reverse mortgage lenders and are seldom chosen by borrowers. Of the more than 600,000 currently active reverse mortgages insured by the government, only 2 percent involve pure tenure payments, a HECM spokesman said. Another 3 percent involve a combination of tenure payments with a line of credit allowing part of the loan's funds to be withdrawn at the borrower's discretion. A pure line of credit disbursement option was chosen by more than 90 percent of borrowers. A reverse mortgage allows homeowners to access the equity in their homes. Loan proceeds are first used to pay off any remaining mortgage balance on the home. Homeowners can then have access to a percentage of any remaining equity in their home. They can pretty much use these funds any way they like.
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The only asset that counts in determining eligibility for a loan is their home equity. Borrowers can then stay in their home as long as they wish without ever making another mortgage payment. Borrowers must, however, stay current with their home's property taxes and home insurance premiums. Failure to do this can be grounds for defaulting on the loan and possibly being evicted from the home.
HECM borrowers must be at least 62 years old. The federal rules require that consumers receive financial counseling before taking out a loan. But HECM borrowers have not had to meet any financial tests concerning their ability to continue making insurance and property-tax payments, and this has led to loan delinquencies and government insurance losses.
These and other HECM shortcomings led the FHA to recently restrict the availability of some HECMs. The agency is also working on a means test for borrowers to reduce the likelihood that they will not be able to afford tax and insurance payments.
While tenure payments are not widely discussed among existing HECM lenders, they are the centerpiece of a new reverse-mortgage startup, Longbridge Financial, which is based in New Jersey. Longbridge believes tenure payments can be an extremely viable and attractive way for millions of seniors to at least partially close their retirement income gaps.
"This kind of product can really help them go from an unsustainable to a sustainable process" financially, Longbridge CEO Michael Gordon says. Longbridge's strategy includes working with financial advisers to help educate them about the advantage of including the home as a component of a retirement plan's asset mix. A HECM tenure payment, he adds, can permit "swapping out this idiosyncratic asset called a house for a more balanced portfolio and an income stream."
Gordon and company chairman John Sinclair see Longbridge as having a strong social mission to help seniors achieve better retirement outcomes. It's not just about making a profit. Gordon says Longbridge will use internal loan standards to guard against making a HECM for a borrower who shouldn't have one or can't afford the future stream of tax and insurance payments.
The company's approach also has garnered the involvement and support of economist Alicia Munnell, head of the Center for Retirement Research at Boston College and one of the nation's leading retirement experts. She feels Longbridge has a better approach to HECMs and has become a director of the company.
"The way the government has structured the product, loan originators tend to be only interested in transaction volume," Sinclair says. "We look at the world a little differently."
"I just believe that [a reverse mortgage] has a place in solving the retirement problem in this country," Gordon says, emphasizing that there aren't a lot of other solutions that can contend for this role. "I also have a real affection for the tenure product. I think that it is, in my view, the 'killer app'" of HECMs.
In addition to generating a lifetime stream of income, Gordon says, the government's payout rules on tenure payments are more than competitive with other investments, especially in today's low interest-rate environment. These payout rules, he explains, are based on the statistical likelihoods that aging homeowners will either die, become too frail or ill to stay in their homes or decide to move out on their own steam. Any of these three events will end the flow of tenure payments, and any untapped equity funds will revert to the larger pool of funds available to pay everyone else's tenure payments. It's this "pooling of interest" feature of the payments that makes their returns attractive.
The share of a HECM borrower's equity that is paid out in a monthly tenure payment is tied to age, with older borrowers getting higher percentages. Longbridge provided a sample of tenure payments for a couple in a home with no mortgage valued at $250,000. The HECM loan they take out is assumed to have fees and loan costs of $10,000. Their remaining equity remains inside the HECM loan and is used to pay loan costs and other fees over time. Here is what their tenure payments would look like:
|Reverse Mortgage Tenure Payments|
|($250,000 equity, $10,000 loan expenses)|
|Age of Borrowers||Net Loan Amount||Annual Payment||Payout Rate|
|Source: Longbridge Financial|
With interest rates now close to zero on certificates of deposit, the returns on HECM tenure payments are very competitive with other investments, Gordon says. This is particularly true given that the tenure payments carry federal guarantees. Annual returns in the example range from 6.6 percent for a 65-year-old couple to 13.3 percent for a couple in their 90s.
"You'll be getting these payments for as long as you stay in the home," Gordon says. "I'm not talking about taking this money out and investing it. I'm talking about taking this money and using it for basic household expenses" and to maintain or increase the borrower's standard of living.
"This can turn your home into income for life; it can turn your home into a pension," Gordon says.