Seniors will have fewer avenues to secure steady retirement income, now that the two largest lenders in the reverse-mortgage business have decided to discontinue offering the product.
Wells Fargo, the nation's top reverse-mortgage lender, announced earlier this month that it will stop originating the loans, citing inflexible government regulations and concerns that home prices could continue to sink. Wells Fargo's announcement comes on the heels of Bank of America's move to exit the market earlier this year. As of April, the two banking giants issued nearly 44 percent of reverse mortgages, according to research firm Reverse Market Insight.
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While reverse mortgages make up only a small portion of the larger lending landscape—just under 115,000 of the loans were on banks' books at their 2009 peak—tightening credit standards for traditional mortgages coupled with falling retirement portfolio values has heightened demand for the loan product, even as the recession has drained equity from American homes.
Conceptually, reverse mortgages are another retirement-income option for older Americans who might not have a lot of savings, but have built up equity in their homes. Homeowners who are at least 62 years old can apply for these mortgages, which allow them to borrow money to create an income stream—either in a lump sum or regularly scheduled payments—against their home equity. Borrowers can continue to live in their home providing they keep up with property taxes, pay insurance premiums, and adequately maintain the home. (In some cases, borrowers have to pay for mortgage insurance, and, just like with traditional mortgages, lenders often tack on origination and closing fees.)
When the borrower leaves or dies, the home is sold, the lender collects the outstanding loan amount from the sale, and any remaining funds go to the borrower or their heirs. Everyone's happy, right?
The product sounds perfect for retirees whose only asset is their house, but the ongoing ravages of the recession and housing-market slump have depressed home prices significantly, jeopardizing seniors' ability to repay the loans they borrowed against equity. That, coupled with strict government regulations prohibiting banks from evaluating an applicant's creditworthiness, were the primary contributing factors to Wells Fargo's decision to bow out of the marketplace. (Bank of America cited the effects of the recession as the primary driver of its decision.)
"It really came down to the restrictions associated with the reverse mortgage product," says Franklin Codel, Wells Fargo executive vice president and head of national consumer lending. "We can't examine the ability of seniors to sustain their lifestyle and responsibilities, so we were seeing increasing defaults on taxes or on insurance or both. It became very evident to Wells Fargo that this product was not sustainable in its current standing."
The move comes as an increasing number of ill-prepared Americans are expected to head into retirement, which has some financial planners worried about how asset-poor seniors will make ends meet with one less option for retirement income.
"The government [has to] do something to shore up the program, to right the ship so that legitimate financial institutions will still participate," says Dick Van Dyke, a registered investment adviser based in Springfield, Ill. "We've never seen anything like the amount of folks that are going to retire over the next 15 years that aren't prepared for retirement."
But Van Dyke doesn't blame banks for exiting the market and says the government needs to revise the guidelines governing reverse mortgages to make the product more attractive to lenders again. Looking ahead, Van Dyke expects demand for reverse mortgages to pick up considerably, with many retirees relying on these products to be available to supplement their income stream after retirement.
Historically, the cost of reverse mortgages has been higher than conventional mortgages, but without enough lenders competing for borrowers, those costs could go even higher, Van Dyke says, further restricting the availability of the product for seniors.
"There's nothing stopping banks from pulling out of this program," Van Dyke says. "But as soon as the government realizes that this program has to be adjusted to work with the private sector, and the private sector really is the most efficient, they're going to have to work hand in hand."
"This doesn't need to be a welfare program," he adds. "For people who have legitimate equity in their properties, this can still be a win-win [program] if it's designed properly."