What is a Reverse Mortgage
Simply put, a reverse mortgage allows you to use the equity in your house to access money.
And what is ‘equity’? It is the value of your home, minus any money you owe on your mortgage.
This home equity release allows you to get the money without you having to sell your house.
You can use the money to fund your holiday, medical expenses, renovate your home or just for everyday expenses. You can even use it to pay off your credit card debt, buy a new car or help the children and grandchildren with financial support- a deposit on your children’s first home or set up a fund for the grandchildren’s education.
Reverse mortgages are more expensive than standard mortgages. There is a certain amount of risk involved besides long-term financial impact, so definitely seek professional advice before you take the plunge.
How Can I Access Home Equity
Reverse Mortgage – which allows you to use the equity in your house to fund your lifestyle and expenses in your retirement.
- Home sale proceeds sharing – also known as the Home Revert program. It allows anyone to sell their future house and still live there. It is an alternative to reverse mortgages but there is an element of risk to it.
- Equity Release Agreement – is an agreement that allows you to sell a portion of the value of your home. You get a lump sum amount or instalment payments in return. You get to live in your house and pay fees for the portion you have sold. It’s a bit like paying rent on it. However, your portion of equity reduces over time, to cover the fees you pay.
- The Government’s Home Equity Release Scheme (formerly known as Pensions Loan Scheme) is a voluntary scheme for older Australians.
According to a recent article in The Age, the number of older Australians taking out a reverse mortgage has increased over the last three years. This is partly due to participants being allowed to borrow a lump sum to deal with the rising cost of living expenses. According to the report, as of July 1, participants can take an advance payment of their loan instead of an income stream.
New figures from Services Australia indicate an increase in the number of participants from 768 three years ago to 6041 as of June 30, owing a combined $138 million. The program that has been around since the 1980s, has been growing at more than 40% yearly. This increase comes as the market for commercial reverse mortgages shrinks and access is widened to include full pensioners since 2019.
According to a spokesperson for the Consumer Action Law Centre, the lump sum option would appeal to borrowers.This would mean a continued rise in demand. He believes there is a lot of wealth tied up in housing in Australia. People are looking at ways in which to use that wealth in their lifetime. On a cautionary note, he would advise older Australians to do their maths to understand how the debt would compound and be open to considering other options such as downsizing.
The scheme provides a flexible and secure way for older Australians to supplement their retirement income, said a spokesperson from the Department of Social Services. “These changes provide more options and greater flexibility for users of the scheme and are expected to increase the number of older Australians choosing to participate.”
Prior to 2019, participants in the scheme could draw a fortnightly income up to the full pension rate including any existing pension payments. However, this benefitted only part-time pensioners and self-funded retirees. The changes made in July 2019 meant borrowers could borrow to fund a fortnightly income of up to 150 percent of the full pension rate.
Show Me The Money
How much money you can get depends on
- Your age
- The value of your home
- The type of equity release
It is important to remember your decision could affect your partner, family and anyone who lives with you. It is best to get independent financial advice, talk it through with your family members and understand what you are signing up for.
How Will It Affect Me?
In particular, consider how a reverse mortgage will affect your
- Eligibility for the Age Pension
- Ability to afford aged care
- Ability to pay for future living expenses, medical bills and home maintenance
- What you leave for others when you die
- Whether your partner or any person who lives with you can continue to live in the house when you die or move out
Pros Of A Reverse Mortgage
These are some of the advantages of taking out a reverse mortgage
- You can choose from a range of payment options such as lump sum, regular advances (monthly, quarterly or annually) and a line of credit. You can also make regular voluntary loan repayments until the end of the loan.
- You will never have to repay more than the value of your property as there is no Negative Equity Guarantee. This holds good even if the loan, including the accrued charges, exceeds this amount.
- The legal work involved will always be done by a solicitor of your choice and one you trust. This ensures everything is explained and discussed with you in full.
- Fund a move into an aged care facility without having to sell your house to afford the cost of care. The title remains in your name too.
- You can use an investment property or holiday home as security.
Cons Of A Reverse Mortgage
And the disadvantages are
- Interest is capitalised. In other words, the loan amount will increase over the course of time (unless interest is paid during the course of the loan).
According to a financial counsellor at the National Debt Hotline, reverse mortgages are a good option for helping people to stay in their homes if that’s what they want to do, provided they are going through adequate checks to ensure they are suitable and not being charged unaffordable interest rates.
- Reduces the amount of home equity available as a bequest when you die.
- The loan to value ratios (LVR) of reverse mortgages are generally lower as compared to standard mortgages. Your age dictates the LVR for a reverse mortgage.
- The interest rates are higher compared to standard mortgages. The reason being these loans are generally repaid at the end of the term.
- Drawing funds from your equity now may reduce what you could potentially access at a future date.
- There are lender fees to be paid depending on the mortgage amount, insurance and closing fees. These are a requirement for granting the loan. This adds to the loan amount.
How It Works
By giving you access to the equity in your house, your retired life can be much more comfortable without having to sell your house. The loan can be taken as a lump sum, a cash reserve or a regular income stream or a combination that suits you best.
Regular instalments from your home equity is a great way to maintain a steady income stream to supplement your living expenses in your retirement. You are able to set up a specific amount to be paid on a regular monthly, quarterly, half yearly or annual basis.
The major benefit of this type of payment is that you are only charged interest as you receive the money. This could generate interest savings over time. On the whole, this is a responsible way to access the equity in your home. It may also help you avoid issues with the Centrelink Age Pension entitlements.
In short, the regular instalment option is great if you want to maintain a certain lifestyle and your income flow. Paying bills or taking a vacation can be less of a struggle if you are assured of a steady flow of cash. It could also work well if you are considering a move to a residential aged care facility. Besides paying a deposit, you still need to pay for accommodation and other ongoing fees regularly. Regular instalments of cash can help significantly with these ongoing expenses.
Interest is charged just like any other loan. The difference being you don’t have to make repayments while you live in the house for as long as you choose. The interest is compounded monthly and gets added to your loan amount. The loan has to be repaid in full (including fees and interest) when you sell the house or pass away, move into an aged care facility or move out of the property for any reason.
There is no loan repayment servicing fee.However, by law, credit providers are required to provide credit responsibly so not everyone can avail this type of loan. They must ensure all loan conditions such as rates, insurance, body corporate fees and maintenance costs are met before providing the loan.
What Will It Cost?
That depends on
- The amount you borrow
- How you borrow. For example, a lump sum will cost you more because of the compounding interest.
- The duration of the loan
- The interest rate and fees (loan establishment, valuation, ongoing)
The Three Types of Reverse Mortgages
- Single purpose – these are offered by state, local and non-profit agencies. They are the cheapest and least common form of reverse mortgages.
- Proprietary – used by homeowners whose homes are appraised at values exceeding those set by the government department that looks after housing.
- Reverse mortgages insured by the government department (Centrelink) – they are the most common type of reverse mortgages.
How Do I Repay A Reverse Mortgage?
It is generally repaid from the future sale of your house. This may happen if you downsize or move into an aged care facility. It could also be paid from the proceeds of your estate. Of course, if you are able to pay off the loan earlier you can do so without incurring any penalties.
Am I Protected By Law
Reverse mortgages are governed by the National Consumer Credit Protection Act 2009.
- You remain the owner of the house including the title. This gives you 100% exposure to any growth (or loss) in the value of your house in the future.
- You have guaranteed lifetime occupancy. As long as you meet the obligations of the loan as specified in the terms and conditions of your contract, no one can force you to move out of the house or sell the house. Of course, it is your responsibility to ensure council rates are paid and the house is insured and well maintained.
- You cannot end up owing more than the worth of the house. The ‘no negative equity guarantee’ clause (NNEG) introduced in 2012 ensures you are protected by law and cannot owe more than your home is worth, irrespective of the value of the property.
Difference Between A Reverse Mortgage, A Line Of Credit Or A Home Equity Loan
A number of banks provide home equity loans and a line of credit to homeowners to access the equity in their property.
However, since the Royal Commission into the banking sector in 2018, getting a loan has become harder for retirees. Credit of any form has become less available for retirees who may not have the income to show that they can meet the required repayments.
A line of credit (LOC) is an account that lets you borrow money when you need it. There is a preset limit to the amount you can borrow by writing checks or using a bank card to make purchases and cash withdrawals.
A home equity loan – also known as equity loan or home equity instalment loan is a type of consumer debt. It allows homeowners to borrow against the equity in their homes. Home equity loan amounts are based on the difference between the current market value of the house and mortgage balance due on the house. There are two types of home equity loans – fixed-rate loans and home equity lines of credit (HELOC). Fixed-rate home equity loans offer borrowers one lump sum. HELOC offers a revolving line of credit.
Regular payments are required to service a line of credit or a home equity loan. These can reduce your cash flow and your retirement income. You will have to find the funds to make the repayment every month. You could experience anxiety and stress knowing your home could be repossessed if you are unable to make the repayments.
With a reverse mortgage, you do not have to make regular repayments unless you choose to do so. You are guaranteed lifetime occupancy – in other words, you can stay in your home for as long as you choose.
Will I Lose My Home With A Reverse Mortgage
The short answer is NO.
As per the National Consumer Act 2009 and the ‘ no negative equity guarantee’ you are protected by law and cannot owe more than your property is worth.
Which Australian Bank To Choose From
These products are offered by a few small lenders charging 6 to 7 percent interest per year.
According to the comparison site, Canstar, lenders offering reverse mortgages include Household Capital, Heartland, IMB, P&N Bank, G&C Mutual Bank and Gateway Bank.
The Commonwealth bank and its subsidiary, Bankwest were the last of the big four banks to exit the reverse mortgage market in 2019.
And The Interest Rate
Interest is calculated on the daily balance outstanding and added monthly to the loan account. This means your loan amount will increase over time. Variable interest rate means that there will be changes to what you are charged over time. There are fees and charges for setting up the loan too.
At present, Heartland Finance has an interest rate of 7.10%p.a (comparison rate 7.12%p.a.) on their Standard Reverse Mortgage and 7.10% p.a.(comparison rate 7.25%p.a.) on the Aged Care Option Reverse Mortgage.
Why Seek Independent Financial Advice?
Very often lenders that provide reverse mortgage loans require a Reverse Mortgage Certificate. It is a certificate of independent legal advice. It is also referred to as a Solicitors Certificate or Acknowledgement of Legal advice.
The reason for the requirement that borrowers seek independent advice is undue influence. Individuals who seek a reverse mortgage or an equity loan are often elderly, vulnerable and can fall victim to predatory lenders and borrowers. As a result, there is a legal requirement to seek independent legal advice prior to entering into agreements with the lender.
The Paperwork And What It Means
In general, a reverse mortgage offers financial freedom for customers to enjoy their retirement.
Some lenders provide an Aged Care Option. This is available to those who are moving into or residing in permanent long day-care. It usually has a fixed term of 5 years. It is not suitable for customers who reside and intend to stay in their home.
Yet another option customers can avail of is the Secondary Loan Option. They can access the equity in their non-owner- occupied property such as an investment property or holiday home. The main advantage for the customer is the waiver of the requirement to live in the security property.
The criteria for customers is that at least one applicant must be 60 years or over. A maximum of two customers can apply under one loan.
The criteria for property is that it should be a residential property in good condition. It must be mortgage free unless the loan is used to pay any outstanding mortgage. Usually, the minimum property value is $200,000 (this may vary from state to state). It is also dependent on location. Loans cannot be secured against properties in retirement villages.
The maximum amount available to borrow is calculated by applying a loan to value ratio (LVR) based on the age of the youngest customer applying for the loan. The LVR is applied to the valuation of the property. For example, the LVR applied to a 60 year old customer is 20% as compared to that of a 75 year old applicant with a LVR of 30%.
Most lenders would offer a minimum initial advance of $5000 and a minimum regular advance (ranging from $300 -$500 per month). They also offer a facility for redraw.
Customers can request an additional loan once the loan (including cash reserve and/or redraw) has been drawn in full. This may, however, require a new valuation of the property, the LVR at the time of the request and the loan balance outstanding to ascertain if further lending is possible.
There are usually no early repayment fees. These are optional and can be paid at any time. Provided the loan is not in default, the total loan amount including accrued interest is usually payable when the last customer moves permanently from the property. This could be when the property is sold, the customer moves into long-term aged care or they pass away.
Interest rates on reverse mortgages are variable and subject to change. Interest is compounding, is calculated daily and debited monthly. Usually, fees are charged for valuation, discharge and other options the customer chooses. Most lenders also send out statements twice a year to confirm the current loan balance.
Repayment options include regular payments made monthly, quarterly or annually usually over 5 or 10 years. Some lenders offer a cash reserve component, enabling customers to ‘reserve’ an amount upto the difference between the funds initially taken and the maximum loan amount. Although not guaranteed, customers can request to draw on this ‘reserve’ at any time.
Another option offered is Equity Protection. Customers can choose to protect upto 50% of the proceeds from the sale of their house. This means that at all times, the amount protected is theirs irrespective of the loan balance on discharge. However, choosing this option reduces the loan amount available by the percentage chosen.
Reverse mortgages are a good option provided you are aware of what it means for your and your family/ partner. Always consider downsizing as an option. Do your homework (various products, repayment options, fees, charges etc) and most importantly seek independent financial advice.