More Than A Number

US mortgage lenders are increasingly supplying house loans to people looking to unlock capital from their properties. However, the so-called reverse mortgages market is growing so quickly it is likely to hit federal limits, forcing the mortgage industry to suspend lending, says Charles Davis.

One of the hottest lending products in the US mortgage market these days capitalises on the enormous equity stakes many greying homeowners have built up in their residences. Reverse mortgages (known as equity release schemes in the UK) are suited for many seniors who own their homes and want to continue living in them in spite of higher property taxes, utility bills and other costs. The products essentially allow homeowners to turn their home equity into a tax-free monthly pension cheque - an appealing option for many retirees who face ever-higher bills for everything and often have one significant asset earning them nothing at the moment.

Reverse mortgages are simple and straightforward: any customer aged 62 or older with a fully paid mortgage, or only a small balance remaining, can obtain a reverse mortgage on a tax-free basis. The 'mortgage' isn't really a mortgage at all, but a loan against the equity in the home. The loan is 'repaid' when the homeowner sells, moves out or dies. The amount of the payout depends on the homeowner's age, interest rates and the current appraised value of the home.

Record numbers

The product can be designed as a lump sum payout, a line of credit or lifetime monthly cheques. Interest accumulates on the funds withdrawn. The monthly payments continue as long as the borrower lives in the house, even if those payments exceed the overall value of the home, but, in those cases, the estate must repay an amount equal only to the home's value. Otherwise, the borrower or his estate repays the amount loaned, plus interest. Upon sale of the property, any remaining equity goes to the homeowner or their heirs.

Federal Housing Administration (FHA) reverse mortgages have county- specific lending limits that cap the amount of equity available. There are also jumbo reverse mortgages for people with higher-valued homes.

American seniors are turning to reverse mortgages in record numbers, according to the Reverse Mortgage Lenders Association, a trade association in Washington. Borrowers last year took out nearly 86,000 FHA home equity conversion mortgages, the dominant reverse mortgage product, compared with just 48,500 in 2005.

Reverse mortgages have grown so popular that they now run the risk of outstripping federal limits. Mortgage industry officials recently said that they may soon be forced to suspend their federal reverse mortgage programmes because the government had agreed to insure only 275,000 such loans - a number that is rapidly being approached. The industry has appealed to Congress for an extension, and it appears on its way, but federal regulators will continue to watch this red-hot space closely.

Jumbo-sized mortgages

Lenders have begun creating a dizzying array of reverse mortgage products. The Seattle Mortgage Company has created a line of jumbo reverse mortgages, which allow larger payouts but at typically higher interest rates. They allow borrowers to refinance the loan after one year with no penalties, far sooner than most competitors.

Another large reverse mortgage player, the BNY Mortgage Company, a joint venture between EverBank and the Bank of New York, recently introduced the Home Equity Conversion Mortgage 100, a reverse mortgage with an interest rate that is 0.5 percent lower than the bank's previous products. Such savings can be significant: a half-percentage point cut could add anywhere from $3,000 to $14,000 to the amount that can be withdrawn with a reverse mortgage.

At the end of 2006, Ginnie Mae, the US Government Mortgage Association, introduced a mortgage-backed security (MBS) option under the Home Equity Conversion Mortgage programme. This will allow approved issuers to securitise and sell their FHA-insured home equity conversion mortgage loans in the form of a Ginnie Mae MBS.

In the super-size reverse mortgage field, reverse mortgage provider, Financial Freedom Senior Funding, based in Irvine, California, dominates the market for larger reverse mortgages, offering variable- rate products for larger homes. It is these larger homes that really make reverse mortgages a captivating pitch. Take a $700,000 home valued at $2 million, which is not uncommon in many US markets: a reverse mortgage product with a fixed interest rate of 8.85 percent, with withdrawals, could result in a balance of as much as $1.7 million over ten years.

That sounds like a lot of money - until appreciation is factored in. If the home appreciated 4 percent annually during that ten-year span, it would be worth nearly $2.7 million. The heirs sell the home, pay off the reverse mortgage loan and still have a tidy profit - and that's after pulling a huge chunk of equity out in the form of cash.

Higher values

Not surprisingly, this is an argument finding great favour with ageing homeowners, many of whom reside in homes with an appraised value that far outstrips the mortgage value. And as mortgage providers continue to push the envelope in terms of ease of use, these big-ticket homes are turning into cash flow for thousands of homeowners.

Mortgage Cadence's Independence Plan, another reverse jumbo product for owners of large-value homes, can provide a higher percentage of available home equity to borrowers, exceeding the federal loan limit placed on reverse mortgages. The product functions similarly to the FHA Home Equity Conversion Mortgage (HECM) and mortgage provider, Fannie Mae HomeKeeper reverse mortgage programmes, but is funded by a third- party lender.

At the moment the reverse mortgage field is dominated by HECM-insured products but proprietary products are going to take more market share in the future. The result will likely be a suite of reverse mortgage products tailored to a variety of segments of senior borrowers.

Now even the big national mortgage players are eyeing the market: Bank of America recently stuck a toe into the reverse mortgage market with a pilot project in Phoenix, though it won't say when it plans to roll out the programme nationally. Countrywide Financial says it expects to launch a new reverse mortgage later this year.