mortgage products, while unlikely to become “a pillar” of American retirement, are economically justified “to play an expanded role in helping older Americans achieve a secure livelihood.” This is according to a new research paper released by the Brookings Institution, authored by researchers Martin Baily, Benjamin Harris and Ting Wang.
The paper, released last week along with two additional papers during a reverse mortgage event hosted by Brookings, serves as a framing device to give insight into the current climate exhibited in the reverse mortgage marketplace, while also helping to introduce ideas for possible reforms to the Home Equity Conversion Mortgage (HECM) program described in two additional research papers released at the same time.
The state of the marketplace
The evolution of American retirement has necessitated more seniors entering their post-working lives to take a more active role in retirement planning. This often leads to recent retirees lacking a sufficient amount of savings, while also having access to potentially substantial equity built up in their homes. Such an arrangement makes a reverse mortgage an appealing option for some seniors who are looking for sources of retirement funding, though some notable impediments exist that have kept the number of reverse mortgage borrowers generally low, the researchers say.
“In theory, reverse mortgages should be more than a niche product,” the paper reads. “Many older households are rich in home equity, but poor in financial assets—suggesting that accessing housing wealth could materially improve their standard of living. And reverse mortgages are consistent with economic theory dictating that households should accumulate wealth during their working years and spend down that wealth in retirement—with reverse mortgages being the only plausible way to access home equity without a regular payment and while continuing to live in the home.”
However, less than 1% of eligible homeowners avail themselves of a reverse mortgage, which researchers attribute on the demand side to barriers like high upfront fees, and borrower caution related to product complexity and the risk of foreclosure. On the supply side, there is risk in a reverse mortgage transaction for issuers due to the possibility of a borrower failing to meet tax and insurance requirements, as well as risk to the Mutual Mortgage Insurance Fund (MMIF) for the scenarios when the amount owed crosses over the threshold of a home that may have lost value.
‘Great potential’ for secure retirement
For the researchers who authored the overview paper, the reverse mortgage product and marketplace is not totally new territory but brings with it a surprising level of complexity. Still, reverse mortgages do contain a great deal of potential for retirees and should be more carefully considered, according to paper author Martin Baily, the Bernard L. Schwartz chair in economic policy development and a senior fellow in economic studies at the Brookings Institution. However, that doesn’t mean that they will necessarily catch on with retirees.
“Prior to writing the paper, I thought there was a great potential for the elderly to use this instrument to provide themselves with a more secure retirement,” Baily tells RMD. “Based on the research I still think that reverse mortgages are a useful vehicle for some households, and that improvements to the market (notably those suggested by our paper givers) could help expand the market.”
One of the reasons that the products may not end up catching fire with retirees is because of the levels of home equity remaining after some of the loan obligations are met, Baily says.
“After accounting for future property taxes, insurance and maintenance, there is often less home equity available than people had thought,” he says. However, that does not mean that people should necessarily be discouraged from examining reverse mortgages as a viable solution in retirement, at least for some people.
“This can become a reputable and valuable instrument for some, but it is not the choice for everyone,” Baily said when asked what a primary takeaway should be from the Brookings research.
A ‘visceral reaction’
Another author on the paper relates how strongly the idea of a reverse mortgage can elicit reactions from people, which often leads to the propagation of inaccurate information surrounding the products and the purposes they can serve. This is according to Professor Benjamin Harris, executive director of the Kellogg Public-Private Interface at Northwestern University’s Kellogg School of Management.
“I find that the mention of reverse mortgages often elicits a visceral reaction, as though the products are toxic and should never be considered,” Harris tells RMD. “And this often appears to be a misinformed position. For example, many of the costs related to reverse mortgages are actually to pay insurance premiums to government entities, and this insurance has been running in the red in recent years—suggesting that consumers are actually getting a subsidy.”
One of the issues related to reputational concerns is product complexity, which can be a formidable barrier to consumer understanding, even if a more complicated attribute could be beneficial, Harris says. Still, the industry as a whole still has to struggle through a history of bad actors, particularly as those are so easily noticed.
“People don’t understand the insurance aspect of these products, which can be a real benefit to some homeowners,” Harris says. “So, instead of being seen as a part of a retirement strategy, these are sometimes seen as a ‘last resort’ source of funds for desperate retirees. That, combined with some bad actors in the past, has probably hurt the reputation of the product.”
The reputation is also complicated by the fast-paced changes that the reverse mortgage product often goes through, which can add an additional barrier to understanding for consumers, Harris says.
“In general, these changes have been positive, but it’s also likely added to consumer confusion over the contours of the loan,” he says. “Perhaps more importantly, though, people do not seem to understand some of the key benefits to reverse mortgages: namely that they can help hedge against extended longevity or falling home prices. In many ways, they are more like an insurance product than anything else, and I don’t think people understand that.”