A good deal of the assets of Australians are in their homes. About 75% of older Australians own the home where they live and they owe very little or nothing on the property. With a reverse mortgage some of the equity in the home is converted into a lump sum or an income stream, whereby the homeowner receives a regular cash payment, until his or her death or the house is sold. Interest, fees and charges accrue until the loan is finally paid off with the sale of the house or from the borrower’s estate.
With a conventional home loan the regular payments reduce the principal (the amount owed) and the interest charges slowly fall as the amount owed falls. With a reverse mortgage there are generally no repayments against the amount borrowed and the interest is added to the loan so the loan size increases and so does the interest.
You may be able to repay part of the loan, such as the interest and other charges. This stops the debt increasing beyond the amount of the loan.
If you want regular payments but your finance institution offers only lump sum loans, you may be able to use the loan to buy an income stream product such as an immediate annuity.
Several institutions now offer these loans. In December 2002 St.George Bank announced the launching of the Seniors Access Home Loan. In September 2003 the Commonwealth Bank of Australia introduced its Equity Unlock Loan for Seniors. State West Credit Society has the Reverse Equity Loan for their members who must be Western Australians.
The OFM Investment Group (formerly Over Fifties Mutual) offers a Seniors Home Equity Release Loan that is available to people over the age of 60 who wish to borrow against either their family home or investment property. OFM offers customers the choice of three interest rate options, as well as letting borrowers protect a proportion of the home under their Inheritance Protection Option.
Bluestone Equity Release, part of the Bluestone group, have a product for property owners who are over 60. Their EQUITYtap product enables you to tap into the equity of your home or an investment property. The interest rate is fixed for the life of the loan.
These loans are for people 65 and over (63 for St George, 60 for EQUITYtap) and are secured against your primary residence. They cannot be secured against holiday homes or investment property (except EQUITYtap).
If you want to use your home as security for a loan then you could also investigate the Pensions Loan Scheme from Centrelink. This operates in much the same way as a reverse mortgage. Find out more.
The reverse mortgage can appeal to those who have a substantial equity in their home but don’t want to move to a smaller and cheaper property, so unlocking some of their capital. However, the money can be used for anything: holidays, a car, family assistance.
Against this advantage, note that you pay compound interest (that is, interest is paid on the interest owed) on the loan so if you live for a relatively long time you can end up with a considerable debt. For example, a loan at 7% compound interest will just about double in 10 years, so if you borrowed $40,000 you will owe about $80,000.
When considering any reverse mortgage you should be clear on who is liable for the loss if proceeds from the sale of the home is insufficient to cover the loan and interest.
Note also, as the interest rate is variable (except EQUITYtap) the amount you pay in interest might increase substantially. If the loan is taken as an income stream you only pay interest on the outstanding balance. If the loan is taken as a lump sum you pay interest on the whole amount.
Keep in mind too that later the equity in your home may be necessary to fund a move into an aged care facility or into another home more suitable to ageing conditions. After repaying the loan and its accumulated interest the capital remaining may be insufficient for the retirement home of your choice.
Of course, this type of loan will prevent your passing on the family home debt free. You may wish to discuss it with your family so they understand the consequences of a reverse mortgage. Perhaps they can suggest other arrangements.
Be aware that you have to pay to have the home valued initially and periodically thereafter. Also, there may be application fees, establishment fees, legal fees to the lender and on-going administration fees which are added to the loan so interest is also charged and compounds on these fees.
Possible effects on pension
If you use the money for spending and not for investing it is not regarded as income for pension purposes. If you take regular payments and you don’t save the money, then neither the income test nor the asset test will apply for pension purposes.
If part of the loan is unspent it is counted as an asset and will reduce the pension, possibly to the point where it cuts out and you will lose the benefits of the pensioner concession card, or the health care card. The first $40,000 is not counted as an asset for 90 days even if unspent but it is considered an asset after 90 days. If more than $40,000 is borrowed and not spent immediately then that part over $40,000 is instantly assessed as an asset. The amounts considered as an asset will be subject to deeming under the income test.
Before committing to a home equity loan you should undertake a detailed analysis of all the ramifications, if you have the necessary expertise, or seek independent financial and legal advice.
If you are receiving a government pension, you should at least seek advice from a Centrelink Financial Information Service officer to determine how, if at all, the arrangement you are considering will affect your pension.
The National Information Centre on Retirement Investments Inc (NICRI) has a leaflet on reverse mortgages. Go to the NICRI website and click on the “Leaflets” box in the top right, and then on “Reverse Mortgages”.
Also see the views of the Australian Securities and Investments Commission (ASIC). Among other things, note how the amount you or your estate owes grows substantially over time.
Reverse Mortgages by Richard Reed thoroughly examines the subject and associated issues such as the property market in Australia, the development of reverse mortgages in Australia and overseas, options to not taking a reverse mortgage, and more. You can buy Reverse Mortgages from the YOURLifeChoices bookshop.
Call it a home equity release, reverse mortgage, whatever – the latest version comes from Bendigo Bank, and is called Homesafe. But how can you be sure how safe a home equity loan really is? These products urge older Australians to take equity out of their home to pay for current expenses. The good news is that some of the financial companies offering such products have formed a not-for-profit member organisation called Senior Australian Equity Release Association of Lenders (SEQUAL) to encourage the industry to develop in an ethical manner. Founding members include Bluestone Equity Release, St George Bank, Australian Seniors Finance and OFM Investment Group (formerly Over 50s Mutual). Consumers can access information about SEQUAL approved lenders, their code of conduct, and equity release loans at the website www.sequal.com.au