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Reverse Mortgage Market Targeting Seniors’ Equity

As reverse mortgages gain acceptance by seniors, new dangers are beginning to materialize. A number of reverse mortgage brokers are now actively seeking insurance agents to promote reverse mortgages in order to fund annuities and long-term care insurance products. Many of these products are unsuitable, and the seniors who purchase them stand to lose control over a substantial amount of their equity. According to Neil Granger, a career life agent and expert witness on annuities and long-term care insurance, reverse mortgage brokers are actively prospecting life agents. Granger says, “I can’t think of any instances where it is appropriate to use home equity to fund deferred annuities or any financial justification for doing so.”

Here is a brief example of the shortcomings of using home equity to purchase deferred annuities:

An Insurance agent sells a senior a $100,000 ten year deferred annuity that pays a 2% return.

The annuity is financed by a reverse mortgage that the senior takes on her home.

Interest on reverse mortgages compounds (5 to 8% on average). If the interest rate was 6%, then in ten years the senior will owe $183,000 on the $100,000 reverse mortgage loan. There will also be an additional $15,000 to $20,000 for the other fees and charges associated with the reverse mortgage loan. In ten years the senior will have spent about $200,000 to purchase a $100,000 ten year deferred annuity that pays 2%.

It is not possible for a deferred annuity to generate enough interest to offset the true costs of the reverse mortgage. Furthermore, the deferred annuity places the senior’s assets out of the senior’s control for many years. If the senior needs access to the funds in the annuity, there are substantial surrender penalties and fees for early withdrawals.

Any senior who is considering a reverse mortgage as a means to fund insurance products would do well to heed the AARP’s caution, “Sales practices that attempt to convince consumers to use home equity to pay for such insurance should be defined as violations of suitability standards.” [AARP study, Reverse Mortgages: Niche Product or Mainstream Solution (#2007-22 pp. 119)].

In addition to annuities, some agents are also encouraging seniors to take out reverse mortgages in order to purchase long-term care insurance. This is a problem due to the high costs of a reverse mortgage’s compounding interest, origination fees, service fees, insurance, etc. The longer an individual pays for long-term care insurance premiums through a reverse mortgage, the less favorable the transaction. Potential borrowers need to see illustrations of the compounding costs of the reverse mortgage alongside of the long-term care insurance policy’s projected policy payouts (minus the annual long-term care insurance premium costs) in order to understand whether or not long-term care insurance would make sense for them.

It is also important to note that taking on a reverse mortgage has the potential of making an otherwise eligible individual disqualified from Medi-Cal. One of the conditions of a reverse mortgage is that the loan becomes due and payable when the borrower permanently moves away from the home, i.e., 12 months or more. If the senior moves into a nursing home and is unable to pay off the loan, then he or she will be forced to sell the home to pay off the reverse mortgage debt. Any cash left over after the sale will count against the nursing home resident’s cash reserve and the excess cash could cause the resident to be discontinued from Medi-Cal. The irony here is that a home is exempt for purposes of qualifying for Medi-Cal, but retained cash from the sale of a house is not exempt unless the individual intends to purchase another home.

Currently it is not illegal in California for insurance agents to convince seniors to pull out their home equity via a reverse mortgage in order to purchase insurance products. However, just because it is not illegal doesn’t make it a wise decision. CANHR encourages seniors to consider the true risks and costs before using their home equity to purchase insurance products that may provide little or no benefits.

Page Last Modified: December 8, 2010