Reverse Mortgage: Hero or Villain?

Perhaps it is just poor timing.

Just as the word 'sub-prime' became part of the everyday vernacular, just as mortgage industry giants fell, and just as the Federal Reserve wrested new authority over the market, we have a new mortgage product on the scene.

It is called a 'reverse mortgage,' and it is not really that new.

In the days of heady profits and rapidly escalating home values, no one saw much value in selling them. No wonder, really. Reverse mortgages are reasonably complicated financial instruments. By statute, they apply only to a narrow segment of the population. They were simply too much trouble. But that has changed.

For a primer, I tapped Tony Weick, the resident expert on reverse mortgage products at Bell Mortgage.

Tony reminded me reverse mortgages are not, in and of themselves, 'good' or 'bad' products. Just like FHA, Jumbo, VA, and sub-prime, reverse products fit certain buyers under certain circumstances.

In short, a reverse mortgage is exactly what it sounds like. Instead of you making payments to the bank to earn back the equity it owns, the bank pays you each month to earn the equity you own.

A few caveats (aren't there always?): Reverse mortgages are only available to homeowners aged 62 and over who own - or mostly own - their own property. Also, homeowners cannot 'buy into' a reverse mortgage; it must be a refinance (although just-signed legislation may ease some of that burden). Finally, buyers must complete HUD-authorized coaching session before they are allowed to begin the process. On the surface, smart precautions.

On the plus side, reverse mortgages allows homeowners to stay in their home and access its equity without selling the home outright. Another major bonus, reverse mortgages are non-recourse annuities. Essentially, you and the bank enter into a sort of grim game of chicken. Based on your age, the bank determines your life expectancy, and uses that number to set a maximum dollar payout and monthly payment. If you live past your life expectancy, you win. The bank must continue paying you each month, even if the amount they pay goes beyond the value of the home itself. In the end, they are left holding the bag. But if you expire early, you also "win" (or more specifically, your estate "wins"). The bank has only the lien on your property for the amount it paid out to that point. In other words, the game is loaded in your favor.

Not bad.

So what does the bank get?

For one, the up-front fees are a bit heftier than 'forward mortgages' (Tony's word, not mine). Yes, you never make a payment, but that means the interest and fees capitalize, essentially limiting the total amount you could access. In other words, you (or your estate) could feasibly get more money out of your home if you waited it out (read: you died) or sold it early (read: move into another home/assisted living arrangement/etc.). Of course, all this depends on your tax situation.

Tracking so far?

If not, I don't blame you.

Tony and I spent 45 minutes on the phone working through the details. Any errors or omissions in the above description are mine, not his. And believe me, there are a lot more details.

And therein lies the issue.

To get good at reverse mortgages - from a professional's perspective - takes time, patience, and training. Bell takes it pretty seriously. As do many other organizations. But can you envision a scenario in which loan officers looking to survive in today's market will cut corners to open up this potentially lucrative market? I can.

The image of a few bad apples in the market, however, is nothing compared to risk when you begin to market to seniors.

That game is fraught with peril.

First, you need to spend considerable energy building trust. That takes time and money. And while there may be many more seniors in the coming years given demographic changes, they also are savvier about money than at any point in history. Add to the mix involved and financially adept adult children, along with the emotionally charged inheritance/family issues they bring, and you have an unrivaled marketing challenge.

More vexing, however, is the risk the industry takes the more it promotes this product. Coming off the heals of the sub-prime mess, mortgage players always could claim, "we should not have lent to unqualified buyers, but hey, they lied on their applications too."

Not so when marketing a financial product to seniors.

You have what I call the "swampland in the Sunshine state" image problem. Whether the industry likes it or not, consumers have a long memory of real estate scams targeting seniors throughout the 1970s and '80s. Fair or not, as a financial product for seniors, reverse mortgages have been greeted with more than a healthy dose of skepticism.

Senior Lending Network (as seen on TV), among many others as of late, is running up against this problem. Heavily promoting reverse mortgage products, it places its entire industry at risk if word gets around that seniors are getting the short end of the stick.

This time, there would be no shared blame. The public would consider itself fooled twice, and would likely not take kindly to the charge of "bilking grandma out of her home."

Talk about an emotional pressure cooker.

Mortgage types had best tread very carefully here.