Positioning Reverse Mortgages as a Solution in a Down Market

One of the most prominent scholarly advocates for using reverse mortgages in retirement laid out a case last week for finding opportunity in the volatile stock market.

“A reverse mortgage helps preserve a portfolio and gives it a chance to recover,” Wade Pfau, professor at the American College of Financial Services, said at the 2018 Housing Wealth in Retirement Symposium in Washington, according to a Forbes report.

Pfau and fellow Home Equity Conversion Mortgage researcher Barry Sacks examined the ways the products can become more attractive in bear markets at the event, which was co-sponsored by the American College and the Bipartisan Policy Center, a Washington-based think tank.

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Forbes contributor Ted Knutson laid out the hypothetical example of a retiree who needs $3,000 per month from her portfolio to cover expenses for a year. If her index fund had a value of $250 per share, she’d have to sell 144 shares to recover that amount — or 180 shares if the stock market causes the fund to dip 25%. 

“Home equity creates much more stability in retirement,” James Lockhart, the co-chair of the Bipartisan Policy Center’s Commission on Retirement Security, said at the conference, according to Forbes.

Back in February, when the stock market took its first tumble after seemingly endless good news, reverse mortgage originators told RMD that a short-term correction wasn’t enough to boost volumes — but that extended uncertainty could. Since then, the market has seen wild swings amid the president’s unilateral actions on trade, which could create an opening for HECMs to fill a need for retirees worried about a fluctuating Dow Jones Industrial Average.

Changing perceptions

Speakers at the conference noted the potential downsides of taking out HECMs, with MIT finance professor Deborah Lucas pointing out the costs and fees associated with a reverse mortgage. She pegged the average origination cost at $27,000, with a general guideline of $18,000 for $100,000 in HECM proceeds.

In general, however, the gathering emphasized the ways that the reverse mortgage industry have changed since the days “of operators evicting widows,” as Knutson put it. Former Treasury Department advisor Mark Iwry characterized home equity as a way to avert emergencies in retirement, while also acknowledging that retirement planners have largely neglected the asset class when looking at their clients’ overall financial health.

Jamie Hopkins, also an American College professor, suggested that employers should mention reverse mortgages to retirees during their exit interviews going forward.

“I find it shocking financial advisors haven’t paid much attention to housing wealth in retirement,” Hopkins said, per Forbes. “That has to change.”

Written by Alex Spanko

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  • The example of the woman needing $3,000 per month is interesting and indeed at $250 per share she would have had to sell 144 shares throughout the year to pay her living expenses. However, if the shares drop 25% in value then the value per share is $187.50 so that 192 shares are needed not 180 shares. If the value of the shares dropped 20% to $200 then 180 shares would be needed. Someone blew the math or provided the wrong data.

    Someone needs to help Ms. Lucas figure the upfront costs of a HECM. If the average appraised value of a HECM in Janurary 2018 was about $365,850 (a high estimate), then the upfront costs would have been much closer to almost half of her computation. Using an expected interest rate of 5% a 62 year old would have about $150,000 in principal limit. My components are $7,317 for upfront MIP, $5,659 in origination fees, and other costs of $4,024 for total upfront costs of $17,000 (or $10,000 less than hers). Her estimate is about 59% higher than mine.

    I come much closer to $11,333 per very $100,000 in principal limit for a 62 year with an expected interest rate of 5% which is in sharp contrast to her $18,000.

    I agree with Ms. Lucas that the percentage of costs to dollars of principal limit is a powerful and very important way for a borrower to understand the upfront costs of this mortgage; however, borrowers should not be presented with an over or under statement of upfront costs. In my case the upfront costs are 11.333% of the principal limit, while hers are 18%. The upfront costs of a HECM are not cheap for the amount of proceeds available to the borrower. While I realize this is but one way to measure these costs, its importance cannot be overstressed yet from personal experience in 2004, I understand that originators hate this measuring stick and why since it causes prospects who have options to rethink those options.

    It is disgraceful when an originator begins talking about spreading the upfront costs over a period of years since most borrowers finance these costs and the total upfront costs plus their financed costs can easily exceed 6 times their original cost. For example $21,000 spread over 30 years sounds like $700 per year, a steal. If lenders let borrowers pay it off at the rate of $700 per year, it would be. So how much per year would it take a borrower who has an average effective interest rate of 5.5% and an ongoing MIP rate of 0.5% to make level payments over 30 years? The answer is about $1,463 per year which is over twice as much. If left unpaid for 30 years, $21,000 would grow to $126,474. Try telling the senior that the low cost $21,000 in upfront costs will be $126,474 at the end of thirty years. Does that sound cheap to you?

  • If HECM is the answer to a down market, using today’s HECM like the third bucket Harold Evensky once advocated for Savers seems far more costly today. The objective of the three bucket strategy was to use the third bucket as a revolving source of cash meaning that within a reasonable period of time, the funds taken from the HECM line of credit gets repaid!!!

    However, today that job can be solved more effectively today with a HELOC. Renewing a zero balance HELOC ten years down the road hardly seems like dreaming “…the Impossible Dream.”

    With upfront HECM costs now ending up at the end of 30 years at over $120,000 on a $600,000 home, HECMs seems out of date to perform this task economically and efficiently. What was reasonable on 9/29/2013 with an adjustable rate Saver is not the same on 3/28/2018. Today’s upfront costs are not those of the upfront costs of a Saver.

    Like Harold Evensky I loved the adjustable rate Saver for use in many financial strategies as did Dr. Salter, Dr. Barry Sacks, Michael Kitces, and many others. I doubt if there would be as many talking about financial strategies if there had been no Saver. So instead, as of 10/2/2017 HUD gave us what is essentially a Saver from the Principal Limit Factors point of view but with upfront costs of $21,000 on a $600,000 instead of the $10,000 of the 2012 Saver where the origination fee is charged in full.

    This is like the poker games where the entrance fee is $10,000 to play four years ago and gradually climbs to $21,000. Since the winnings cap is no higher, why the 110% price increase should be the question we are getting from financial planners but they are not asking because the 110% increase is like an alarm blinking that says: “THERE ARE CHEAPER WAYS TO DO THIS!!!”

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