On February 27 and March 10, 2009, RMD published Are Reverse Mortgage Proceeds Really Income? and And How Can Reverse Mortgage Proceeds be Income?  The purpose of those articles was to dismiss the idea that RM loan proceeds are income. The contention in those articles is that RM proceeds are nothing more than loan proceeds and only increase debt, not equity as income does.

When a RM borrower receives a tenure payment from the lender, that borrower either receives 1) an electronic transfer that increases the balance in a bank account or 2) a check. Both are forms of cash. Loan proceeds indicate that a lender has paid out cash on behalf of the borrower and in turn a loan balance increased. When we talk about receiving income we are generally talking about receiving an asset and its source is from some type of earnings activity.

One reader correctly pointed out that income has more than just one meaning. He illustrated his point by stating that homeowners mean the same thing when they say: “’I have all these bills and don’t have the money to pay them!’ or ‘I have all these expenses and don’t have the income to pay them.’” He used this example as his rational for calling loan proceeds “income” when he is explaining RMs to seniors. He also uses the word “income” in his ads.

To assume that homeowners always mean the same thing by these two statements is to ignore what a homeowner might actually be saying. The first statement sounds much more desperate than the second; yet the writer is right in that they could mean the same. In any event most of us ask questions to determine what the real situation is.

For example, we met with a senior several months ago who had a home worth over $625,000 but also had mortgages exceeding $480,000 against it. His first mortgage had just reset. He told me that he and his wife no longer had the income needed to meet all of the expenses they now had. Fortunately, the new HECM lending limit and personal savings are rescuing him out of that situation. Then last year we met a woman who told us that on her very low income she could no longer pay her bills. She had no savings, had a leaky roof with a tarp on it, and had problems seeing. Within weeks she had a HECM. The dear woman had equity in her home almost five times greater than the first gentleman but her cash need was unquestionably more immediate and urgent.

No matter what word I would have used to describe HECM proceeds, the first gentleman was ready to get rid of his monthly mortgage payments. But the woman did not want anything to do with debt and would have been far less concerned about getting a HECM if proceeds had been described as “income” whether taxable or not. So we worked with her to make sure she knew the difference between a HECM and every other mortgage she ever had before. It took a while but she got a HECM. Six months later, we unexpectedly received a “thank you” note from her. She gave us permission to publish that note in an advertorial of a Southern California senior magazine that has a circulation of over 250,000. This woman had talked to other RM originators but liked the fact we were straightforward and did not gloss over the debt nature of a HECM. For her a HECM is a blessing but it most certainly is not “too good to be true.” Both the man and the woman are in their mid 80’s.

We want those who believe that RM proceeds are income to respond. For example, in California we can legally call proceeds “additional income” since it is written into our own Civil Code (Section 1923.5) and a statement most originators are required to have borrowers sign quotes that section. Of course as explained to me by a California state senator, the mortgage expert who was responsible for the content in that section told everyone upfront that she had never completed a RM application.

It would be great if someone could find forward mortgage marketing literature that describes the cash received as part of “cashing out” — as income. Mr. Abel Torres once again found a great quote from a recognized author; finding one saying just the opposite would be great. Ms. Amy Marshall found some great Internet sites where the word income is used to describe RM proceeds.

Here is one example of an article that calls HECM proceeds “income.” In HUD’s September 2008  publication of ResearchWorks,  HECM Program: Coming Into Its Own, the following statement is made: “Borrowers gain a government-guaranteed stream of income….” Even though the article has some valuable statistical information, its explanation of HECMs is greatly oversimplified and its explanation of tax rules is not only oversimplified but also outright wrong.

You are invited to add other articles that refer to RM proceeds as income.

James E. Veale, CPA, MBT
SVP of Tax and Government Affairs & Director of Originator Recruiting for Security One Lending

Because facts and circumstances can vary between taxpayers, the advice rendered in this article was not written for the purpose and cannot be relied upon to avoid or mitigate any tax penalties. As in all tax matters, taxpayers should seek the advice of a qualified tax professional who is knowledgeable, experienced, and competent to advise on such matters.