Reverse mortgage pitfalls

A few years ago reverse mortgages may have been seen as the answer to many people’s financial woes in later life. There are still many questions surrounding the pitfalls of equity release but what should you look out for if considering such a product?

Reverse mortgages work by allowing you to borrow money against the value of your home, meaning that you are essentially signing over a percentage of the proceeds of a future sale to a third party. Most products do not require you to make any repayments until you move to aged care and sell your home or die. The amount you can borrow depends on how old you are – the older you are, the more you can usually borrow. As fees and interest are added to the loan balance rather than being paid over the term of the loan, you must consider if you will be able to pay the amount owed at the end of the loan and if you will have the capital in your home to cover this amount.

If you owe more than your home is worth, this is called negative equity. Some products offer a No Negative Equity Guarantee (NNEG) which will ensure you do not have to pay more than the value of your home. Such guarantees usually come with terms and conditions, i.e your home must be maintained to a standard stipulated by your lender. Consider if you can meet the cost of these requirements or if you are physically able to maintain your own home.

Certain products will allow you to protect a fixed amount of the value of your home so that it cannot be used to repay the debt. However, there may be additional fees payable to allow you to do this.

When releasing equity in your home, you must consider how the money will be used. If you use the money to purchase an asset, such as a car, or gift money out with the allowable Centrelink limits, any payments you receive may be reduced.

Before considering entering into any equity release agreement, you must consult an independent financial advisor who will take in to account your current financial circumstances and assess which product, if any, meets your requirements.

You can also download a free copy of ASIC’s guide to reverse mortgages and equity release products. For more information, visit www.moneysmart.gov.au