Housing authorities filed a legal action against a Honolulu lender Friday attempting to revoke the company's license to sell so-called "reverse mortgages" and impose a substantial fine. It was the latest in a series of warning signs that the reverse mortgage market, once the venue of government sponsored do-gooders who helped old people live more comfortable lives, has become a market rife with predators looking to rip the home equity away from your grandparents.
Reverse mortgages are loans made exclusively to people over the age of 62, where the payments work in reverse. Instead of getting a lump sum and having to pay it back, the borrower often gets monthly payments that don't have to be repaid until the borrower dies or moves, whichever comes first.
They were designed to help seniors who were house rich and cash poor and there are a remarkable number of people in that category, according to the National Consumer Law Center in Boston. NCLC recently completed a study, titled "Subprime Revisited: How Reverse Mortgage Lenders Put Older Homeowner's Equity at Risk," and found that some 12.4 million seniors own their own homes free-and-clear, sitting on somewhere in the neighborhood of $3 trillion in equity. More than 7 million of those seniors had annual incomes under $30,000 and some 700,000 had incomes below $5,000--the picture perfect example of the house-rich, cash-poor individual that these loans were designed to help. (For information on who these loans can benefit see Six Ways to Know if a Reverse Mortgage is Right for You.)
But as other segments of the housing market have soured, the predatory lenders that prowled the subprime mortgage market have moved into reverse lending, according to the NCLC report. The reason: these loans pay brokers high fees and give them the ability to convince unsophisticated borrowers to spend the windfall that they just pulled out of their homes on other high-cost products that pay the salesmen thousands of dollars while leaving their aged customers twisting in the wind.
In one lawsuit, for example, an 87-year-old man was talked into a $274,000 reverse loan, which cost him a stunning $16,050 in fees. The broker then convinced this same retired truck driver to reinvest the proceeds in an annuity that paid 3%. To add an even more evil twist: the loan this senior secured cost him almost 6% annually in interest (that's in addition to the fees). He lost 3 percentage points on every dollar he invested. The only one coming out ahead on this deal was the loan broker, who managed to make off with thousands of dollars from this senior's home equity.
The suit filed by the Department of Housing and Urban Development on Friday told a similar tale--about an 88-year-old borrower who was talked into a two-step transaction, where she got a lump sum reverse mortgage (there are four ways to get your cash with these loans) and was convinced to buy an annuity with the proceeds that locked up her money until she was 104.
Reverse mortgages can make sense for some borrowers. But, if you or your parents or grandparents are considering one, you need to be particularly careful and look out for warning signs of prowling predators. What are those signs?
- Two-step transactions: The lender wants your grandma to get a reverse loan and invest the proceeds in another product that he or she recommends. These are almost always toxic transactions.
- Non-government loans: The bulk of reverse mortgages are issued through a government product called the Home Equity Conversion Mortgage. These loans cap rates and fees at set levels and require salesmen to be monitored by the Federal Housing Administration and the Department of Housing and Urban Development. Loans that are not government insured do not have the same safeguards.
- Urgency. A reverse mortgage is a complicated and costly product that you should spend time discussing with a housing counselor and an independent financial planner (who will not earn a commission on the sale). If your reverse mortgage company discourages you from taking plenty of time to understand all the implications and run the deal by your kids, grandkids and trusted financial advisers, flee. Reverse loans only make sense for relatively young seniors, without other good options. They are generally a terrible deal for those in their late 70s and 80s.
Whatever you do, don't let scoundrels steal your grandparent's home equity.