Reverse Mortgage- an attractive option for Senior Citizens

Canada’s aging population creates an attractive environment for the reverse mortgage market. Seniors will continue to be one of the fastest growing population groups in Canada. Statistics Canada estimates that by 2016 seniors will represent 17 per cent of the population.

Based on old data, from a 2001 census, 1.71 million homes are owned by this age group, of which 85 per cent are reported to be debt free, resulting in 1.45 million mortgage-free homes in Canada owned by persons aged 65 or older.

At the current average national home value, and assuming an average loan to value of 30 per cent (I’ll explain that in a minute), and a 10 per cent market penetration, this market represents approximately $9 billion in potential reverse mortgage volume.

A reverse mortgage has all the terms and conditions of a regular mortgage, except a payment. Instead of paying the mortgage down, the payments you would normally make compound the debt up. So you owe more as time passes, no less.

Think of it from the lender’s perspective. They want collateral and a very high likelihood that they will get back all their principal and interest.

Unlike a traditional lender, a reverse lender just doesn’t know when they will get paid back, just that they will. Here’s a typical deal.

Bob and Betty own a lakefront home in Vernon. When they bought it years ago, the town folk thought they were nuts.

Who wants to drive all the way out there on that pothole road and slip and slide out during the winter and have a big mortgage payment?

Well you can guess what happened, the big mortgage payment is all paid off, the house and property are worth over $1 million, and the town folk are all saying they all knew lakefront was a great buy.

This is an ideal option that comes handy for people who have all real estate but poor cash flow. Most of these people, at their sunset stage, donot want to dispose off their house property which have have made after years of savings and service.

That’s where a reverse mortgage (or similar arrangement) can let them stay on. The lender looks at the market value of $1 million and agrees to lend them $300,000. That’s known as the loan to value ration, and in this case it is 30 per cent.

Reverse mortgages typically have the ratio in this area, so that is very different from a typical mortgage in that most home loans are in the 75 per cent to 90 per cent, loan to value ratio, zone.

The rate floats, usually 4.50 per cent over the T-bill rate If that rate was 7.5 per cent, after five years the homeowner would owe $430,000.

Note how the mortgage is climbing up in value, which makes you wonder what the value of the real estate collateral is doing.

One interesting career, for the mathematically inclined, is that of an underwriter. You figure out what rate and terms you can lend at, so that your credit rating will stay high.

The flip side is an analyst at a credit rating agency who reviews your lending policies and criteria and gives you a credit rating. That’s why this business if issuing reverses has evolved into the 30 per cent loan to value ratio range.

It’s where the risk for the lender maintains the structure with a double AA rating.

The underwriter assumes the real estate valued increase by the rate of inflation, so if the CPI is running at 2.5 per cent a year, then that $1 million dollar property is projected to be worth around $1,131,000 after five years.

The mortgage value is up by $130,000, the value of the real estate by $131,000, with lots of room for error either way. So for example purposes; the net after selling the home and paying off the loan would be around $700,000 plus the value of the $300,000 income portfolio, so we’ll say $1 million net.

Seventy-five per cent of all reverse mortgages are paid out within the first 15 years of the loan.

So many reverse borrowers are using the loans to extend the time they can stay in their homes. Using the funds borrowed for trip, property taxes, gifting, and new kitchens. Where else can you lend money and watch your borrower increase your collateral value?

There are alternatives that can create similar outcomes – for those borrowers focusing on short-term solutions, as in how do we stay here just another five years?

You could put up your home as collateral for a line of credit.

Article Inspiration- BC localnews