There's No Place Like Home:
The Implications of Reverse Mortgages on Seniors in California
Shopping for a mortgage is a complex and often confusing process for many borrowers. The myriad of terms, fees and different products make finding the right mortgage an enormous challenge. Now imagine a mortgage with the following features:
· One that is even more complicated than a traditional mortgage;
· With relatively little public information available to explain the advantages and disadvantages of a given loan package; and
· For which a borrower cannot calculate the true cost without predicting how long she will live and what future interest rates and home appreciation rates will be.
These are the characteristics of a reverse mortgage, a loan that converts home equity into tax-free cash, available to borrowers 62 years of age and older.
A reverse mortgage allows a senior to borrow against the equity in her home in order to access funds. In most cases, the senior must own her home free and clear, or nearly so. A reverse mortgage loan provides a borrower with a lump sum of cash, monthly payments, or a line of credit. The term "reverse" refers to the fact that instead of the borrower making a monthly payment to the lender, the lender makes payments to the borrower. The money need not be repaid until the borrower dies or leaves her home permanently, or in some cases after a fixed number of years passes. Generally the borrower or her estate then sells the home in order to pay the debt.
This report explores the advantages and disadvantages of reverse mortgages for seniors and documents some of the problems borrowers have faced when considering taking out reverse mortgages. The potential market for reverse mortgages in California is huge, since approximately 2,160,000 Californians, 60% of all seniors in the state, are eligible for them.
While this report focuses on the California experience, reverse mortgages are available nationwide, and the problems and recommendations discussed in this report have applicability to other regions as well.
A reverse mortgage can be an attractive option for many seniors who need additional income. The right reverse mortgage can enable a senior homeowner to maintain financial independence and an adequate standard of living by converting a home's equity into tax-free cash. A reverse mortgage borrower retains ownership of the home during the course of the reverse mortgage and does not need to make monthly repayments to the lender. Instead, the reverse mortgage is repaid, usually from the proceeds of the sale of the home, after the borrower sells the home, moves out permanently, or is deceased.
Nonetheless, a reverse mortgage borrower may encounter many financial hazards in taking out a reverse mortgage. First, reverse mortgages are very expensive while promising an uncertain amount of benefits. For example, a typical reverse mortgage may provide to the consumer a $300 per month payment with a monthly compounded interest rate of 1%. Over the course of ten years, the borrower will receive $36,000, but by that time she will owe almost $70,000-almost twice as much as she has received.
In addition, reverse mortgages have complex contract terms that are confusing and can greatly impact the overall cost of a reverse mortgage to the borrower. This report examines the effect of some of these terms on some California reverse mortgage borrowers and looks at the danger to borrowers when lenders or third parties involved in arranging reverse mortgages do not fully disclose a loan's terms and fees. One example involves a lawsuit filed by the San Mateo County Public Guardian which, on behalf of Berta Grey, an 83-year old woman, alleged that Transamerica Corporation unfairly and unconscionably charged her what was in effect a shared appreciation fee. This fee gave Transamerica an automatic 50% interest in the difference between the base value of the home when the loan was signed and the appreciated value of the home when the loan terminated, even though the fee bore no relation to the amount she actually borrowed. Additionally, the cost of Berta Grey's reverse mortgage soared when she was required to purchase an annuity in conjunction with her reverse mortgage. An annuity is an insurance product financed out of the home's equity to provide monthly payments to the borrower immediately or after a certain number of years. The San Mateo County Public Guardian alleged that Transamerica charged Berta Gray the cost of the annuity immediately and that interest began compounding on that fee even though she was not due to receive any payment on the annuity until six years after the loan began, at age 89. Under this arrangement, if Ms. Gray died before the six-year period ended, her estate would see no benefit from the annuity purchase, although she had paid in full for it.
Numerous other front-end and back-end fees can quickly drive up the cost of a reverse mortgage and are discussed in more detail in this report. These fees include origination fees, points, mortgage insurance premiums, closing costs, servicing fees, shared equity or "maturity" fees, and shared appreciation fees. The case of the San Mateo County Public Guardian v. Commonwealth Life Insurance illustrates how some of these fees generated allegations by a class of 1,505 borrowers that they were charged tens of thousands of dollars in artificially inflated loan fees. This suit was settled in 1999.
Reverse mortgage counseling, which is the main consumer safeguard against financial fraud and abuse against seniors, is required for some but not all loans. This means that the current system of reverse mortgage counseling is not enough to protect potential borrowers. Some of the major flaws cited in this report include situations where reverse mortgage counselors are not neutral parties because they are affiliated with the lender. Unfortunately, this practice is encouraged by the fact that Fannie Mae will purchase reverse mortgage loans from loan originators who themselves provide "counseling" to prospective reverse mortgage borrowers.
Additionally, according to HUD estimates, several hundred seniors nationwide have been cheated by unscrupulous lenders and third-party "estate planning" firms who take advantage of consumers' relative lack of knowledge about reverse mortgages to entice them to agree to unfair or illegal contract terms. According to newspaper reports, a woman in Norwalk, California alleged that she paid $5,571 to an America's Trust, Inc. in return for a visit from an agent, who came to her home and referred her to a reverse mortgage lender. She also alleged that America's Trust never informed her that she would be charged 10% of her loan amount for that service. She could have obtained reverse mortgage lender referral information for free from HUD.
These dangers are amplified by the increasing popularity of reverse mortgages and the growth of their target population, senior citizens. Senior home ownership and life expectancy rates are climbing steadily and therefore more seniors are qualifying for reverse mortgages. Accordingly, now is the ideal time to establish consumer protections so that as the reverse mortgage industry grows, current pitfalls and hazards for consumers do not expand as well.
This report sets out recommendations to improve consumer protections in the reverse mortgage industry. These recommendations call for both substantive limitations on the terms of reverse mortgages and stronger consumer education and reverse mortgage counseling services.
Recommended Legislative and Regulatory Actions
· Increase funding for outreach, education and loan counseling for potential reverse mortgage applicants.
· Increase federal and state monitoring and enforcement of existing and new regulations.
· Make counseling for Fannie Mae Home Keeper loans independent of the lender.
· Require all lenders to meet Fannie Mae's Rules for protecting reverse mortgage consumers.
· Mandate independent pre-loan counseling for all reverse mortgage applicants.
· Require all lenders to inform borrowers about reverse mortgage counseling agencies.
· Limit lender fees.
· Eliminate direct lender payments to reverse mortgage counseling agencies.
· Disclose Total Annual Loan Cost (TALC) rates earlier and at additional time points of the loan period.
· Require independent annuity sales agents to disclose the availability of monthly and line-of-credit advances through reverse mortgages.
Recommended Actions to Improve Consumer Education and Advocacy
· Standardize the content and quality of reverse mortgage counseling.
· Increase local outreach, education, and counseling activities.
· Utilize California's Elder Abuse and Dependent Adult Civil Protection Act, existing law providing treble damages for unfair and deceptive practices against seniors, and the California Unfair Practices Act.
· Encourage borrowers to file administrative complaints when they suspect wrongdoing to pressure state regulatory agencies to act.
· Train reverse mortgage counselors to recognize when a borrower's decision-making capacity is in question.
Consumers Union supports these key recommendations to protect consumers who are considering reverse mortgages while preserving and expanding the spectrum of lending options available to them.
This report builds on Consumers Union's research and advocacy work presented in two previous reports-Dirty Deeds: Abuses and Fraudulent Practices in California's Home Equity Market (October 1995) and The Hard Sell: Combating Home Equity Lending Fraud in California (July 1998). Those reports explored fraudulent and abusive practices in the home equity lending industry more generally, including practices targeted at seniors. This report focuses on reverse mortgages as a unique home equity conversion product marketed specifically to seniors. In the development of this report, Consumers Union consulted published sources of information and conducted interviews with reverse mortgage counselors, representatives of consumer education organizations, a representative of the reverse mortgage industry, consumer advocates and attorneys for consumers. Because the typical reverse mortgage borrower is a single woman in her mid- to late 70s, this report generally refers to a hypothetical borrower as a female, although of course reverse mortgage borrowers are both men and women.