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World Bank: Overcoming Major Barriers in U.S. Reverse Mortgage Market

Reverse mortgages have significant potential in serving aging parts of the global population, and can allow more seniors to make financial ends meet in retirement since loan proceeds can be applied to a multitude of scenarios. However, some key market realities and roadblocks with universal application to multiple parts of the world have kept reverse mortgages from flourishing in both well- and under-developed economies alike.

This is according to a newly-published policy paper authored by researchers Peter Knaak, Margaret Miller and Fiona Stewart on behalf of the World Bank’s Finance, Competitiveness and Innovation Global Practice.

After initially taking a look at the paper’s findings in terms of global roadblocks and constraints for reverse mortgages on the supply and demand sides, RMD will now explore the paper’s findings related to policy and regulatory issues, as well as findings that were specific to the U.S. reverse mortgage market.

Policy and regulatory issues

In the modern day, reverse mortgages take on new relevance due to contemporary issues related to the age of society in general, the researchers contend.

“Policy makers are grappling with the demographic phenomenon of aging societies, a low-interest financial environment that provides insufficient returns on pension savings, and policy legacy issues such as low contribution rates, generous retirement age and early withdrawal rules,” the researchers say. “All these issues affect the replacement rate of pensions and raise the risk of old-age poverty.”

As the prominence of traditional pension systems continue to wane as the years go by, policy makers in both advanced and developing economies have to try and facilitate greater household savings behavior. For economies like the United States, major transitions from defined benefit pensions to defined contribution 401K plans are, “raising the risk of inadequate post-retirement income.”

This reality may help reverse mortgages to be characterized as useful instruments, since people with defined contribution plans like a 401K could allow older homeowners access to housing equity to help make ends meet.

“Based on this assumption, a variety of studies find reverse mortgages welfare- enhancing for elderly American homeowners,” the paper reads. “As noted, these products could also prove beneficial in developing countries with relatively high level of housing ownership, but where pension coverage and /or incomes are more limited.”

However, one thing that may work against reverse mortgages is the relatively strict and uncertain regulatory posture that accompanies them in jurisdictions where they are available.

The U.S. reverse mortgage market

Particularly in the United States, the Home Equity Conversion Mortgage (HECM) program has been the source of sometimes significant regulatory scrutiny, the paper contends.

“Over time, U.S. regulators have tightened the rules for the reverse mortgage market in the face of financial distress,” the paper reads. “The reverse mortgage program has undergone several regulatory changes in its 30-year history. In response to customer protection concerns, regulatory authorities created fee disclosure requirements and education safeguards in 1998: potential customers are required to attend counseling by a HUD-approved third party before signing a reverse mortgage contract.”

Reverse mortgages in the U.S. are also difficult to securitize, though the U.S. is the only country in the world that has securitized these loans in the first place. Still, analysts have noted an expectation that the reverse mortgage derivatives market will grow in spite of the relatively small size of the market, the researchers say.

Additionally, longstanding issues in the American reverse mortgage market including reputational concerns continue to have a detrimental effect on the ability of reverse mortgages to flourish across the country, according to researcher Fiona Stewart, one of the authors of the paper in an interview with RMD. That’s not to say that the United States is without advantages in offering reverse mortgages compared to other parts of the world, she says.

“The U.S. market in particular appears to suffer from a poor reputation, given a series of scandals in the past,” Stewart tells RMD. “Pricing ranges are also wide and non-standardized. On the other side, access to credit is much more widely available in the U.S. than in other countries so demand for the product may be less pronounced.”

Global outlook for reverse mortgages

Reverse mortgages are promising financial tools that have potential to address inadequate retirement savings and diminishing pension programs in the United States and elsewhere. However, there is a demonstrable gap between the potential of reverse mortgage products to address financial needs of seniors and the relatively small markets. The way that the products are being leveraged make reverse mortgages appear more beneficial to those with considerably high levels of home equity, the researchers say.

“In this case, reverse mortgages represent more of a wealth management tool for the better-off than an instrument to address old-age poverty,” the paper’s conclusion reads.

For reverse mortgages to work, the researchers identify eight factors that should be in place: sufficient levels of home equity and homeownership; ability of homeowners to prove title; favorable demographics; adequate amounts of competition among reverse mortgage providers; understanding of and trust in reverse mortgages by consumers; reverse mortgage product design which meets consumers’ needs; adequate regulation from prudential and consumer protection perspectives; and lack of alternatives to reverse mortgages that can be used by house-rich/cash-poor seniors.

“[D]evelopments in the U.K. market suggest that, with better oversight, reverse mortgages could play a more balanced role in retirement planning overall,” the researchers write.

Some of the developments in the U.K. market include the introduction of new lenders entering the space, coupled with a strong regulatory arm, Stewart explains to RMD, which could have implications on other countries including the United States.

“The current situation in the U.K. is interesting – and worth watching for other countries,” Stewart tells RMD. “After a troubled history, new providers have entered the reverse mortgage market – including established banks and insurance companies. The Financial Conduct Authority has put a strong regime in place to oversee the products, including prospective buyers seeking independent advice before purchase.”

The presence of seniors who fit an optimal borrower profile in the U.K. may also be encouraging for the market in that part of the world, Stewart says.

“Given the demographics of the country – with a large pool of ‘asset rich income poor elderly’, the market seems to be reviving,” Stewart says.

Read the full World Bank policy research paper.