Mon, Aug 28, 2017
The Consumer Financial Protection Bureau (CFPB) issued a report on August 24 warning older consumers about taking out a reverse mortgage loan in order to bridge the gap in income while delaying Social Security benefits until a later age. The CFPB report found, in general, the costs and risks of taking out a reverse mortgage exceed the cumulative increase in Social Security lifetime benefits that homeowners would receive by delayed claiming. The Bureau also released a consumer guide and video to help prospective borrowers and their families understand how reverse mortgages work so that they can make an informed decision before agreeing to borrow.
“A reverse mortgage loan can help some older homeowners meet financial needs, but can also jeopardize their retirement if not used carefully,” said CFPB Director Richard Cordray. “For consumers whose main asset is their home, taking out a reverse mortgage to delay Social Security claiming may risk their financial security because the cost of the loan will likely be more than the benefit they gain.”
Most reverse mortgages today are federally insured through the Federal Housing Administration’s (FHA) Home Equity Conversion Mortgage (HECM) program, which means they must comply with the related regulations. A HECM reverse mortgage is a special type of home loan that allows homeowners age 62 and older to borrow against the equity they have built in their homes and defer payment of the loan until they pass away, sell, or move out. The loan proceeds generally are provided to the borrowers as lump-sum payments, monthly payments, or as lines of credit.
A variety of financial professionals are increasingly promoting the use of a reverse mortgage loan as a way to delay claiming Social Security benefits. With this approach, a homeowner uses a reverse mortgage loan to replace the income they would otherwise receive in Social Security benefits in the years between the minimum benefits age (age 62) and their full benefits age or later. When Social Security benefits are delayed, beneficiaries see a permanent increase in the monthly benefit, which, based on current life expectancies, results in an increased cumulative lifetime benefit.
Today’s report cautions consumers considering taking out a reverse mortgage in order to delay claiming Social Security benefits. The CFPB report shows that this approach carries the following risks and costs:
- Costs of a reverse mortgage can exceed the lifetime benefit of waiting to claim Social Security: The average length of a reverse mortgage loan borrowed at age 62 is seven years. By age 69, borrowers that pursue this strategy will pay approximately 60 percent in costs (interest, insurance, and fees) for the amount borrowed to bridge the gap in income while delaying Social Security benefits until a later age. Because reverse mortgages are an expensive way to delay Social Security, the report found that by age 69, the costs of a reverse mortgage loan are $2,300 higher than the additional cumulative lifetime amount the typical borrower will expect to gain from an increased Social Security benefit.
- Decreased home equity limits options to handle future financial needs: A reverse mortgage reduces the equity homeowners have in their house. Homeowners who wish to sell their homes after taking out a reverse mortgage are particularly at risk because the loan balance is likely to grow faster than their home values will appreciate. This could limit options for moving or handling a financial shock. For example, a 62-year-old homeowner who has a home worth $175,000, with a 2 percent appreciation per year, will have 61 percent of the home’s total value available as equity at age 67. By age 85, this homeowner will have only about 16 percent of equity in the home if they sell the house.
The CFPB is also releasing a new consumer guide and video designed to help consumers understand how a reverse mortgage works, associated risks, and the borrower’s responsibilities. The guide and video cover issues to consider before applying for a reverse mortgage, such as how much a homeowner can borrow and how the loans work; the possibility of losing the home by failing to meet loan requirements; and what happens to the home after the borrower no longer lives there. In 2015, the CFPB issued an advisory with consumer tips to help borrowers so they won’t be misled by deceptive advertising.
The “Reverse Mortgage Discussion Guide” is available on CFPB website.
The video explaining reverse mortgages is available here.