As some older Americans try to improve their finances by tapping home equity through reverse mortgages, many are at risk of ending up in a worse situation because of confusion over the complex terms of the loans, according to a new government report.
There is a growing tendency for seniors to obtain the money at a younger age and in a lump sum instead of annual installments designed to spread the dollars through their retirement — problems that could accelerate as the baby boomer generation goes gray, according to the report released Thursday by the Consumer Financial Protection Bureau.
With about 10 percent of reverse mortgages in default because the homeowners failed to keep up with required property tax and insurance payments, the bureau said it was worried about the increased use of the product over the past decade and was looking into new regulations. In addition, the complexity of reverse mortgages makes some senior citizens prime targets for scammers, the report said.
"There may be circumstances where the reverse mortgage is appropriate, but the seniors I've talked to really are a bit confused about what it is all about," said Hubert H. "Skip" Humphrey III, head of the bureau's Office of Older Americans.
"They're told there's money out there that they can get, but there isn't always a description of the cost associated with the product. And the interest rates and other parts of this product are often confusing," Humphrey said.
The consumer bureau is considering requiring better disclosure of reverse mortgage terms and stricter oversight, including limits on misleading advertising. The agency had planned to hold a hearing on reverse mortgages in Tampa last week, but canceled it because of Tropical Storm Debby.
The Consumers Union has been warning that reverse mortgages are ripe for abuse and that people should use "significant caution" in exploring the option. Last week, the group urged tougher federal oversight of the loans and published tips for consumers considering reverse mortgages.
"It is an expensive way to borrow," said Norma Garcia, a senior attorney with the organization. "It's not for everyone."
Reverse mortgages allow people at least 62 years old to take out loans based on the equity built up in their homes. But unlike a traditional home equity loan, a reverse mortgage does not require any monthly payments. The loan, which is easier to qualify for than a home equity line of credit, doesn't come due until the home is sold or the person moves out or dies.
It's an attractive option for people who want to enhance their retirement income without selling their home — as long as they're aware of the risks, said Richard Cordray, the consumer bureau's director. The report found that "though many older Americans are aware of reverse mortgages, they struggle greatly to understand this complicated product and the tradeoffs involved," he said.
For example, because the interest is added to the loan amount each month, the size of the loan can grow to exceed the home's value. Under federal rules, borrowers or their heirs generally aren't required to repay more than the home's value. But that can mean there's no equity left in the home to pass down to the borrower's children.
Borrowers also can face foreclosure if they don't stay current on property taxes and insurance premiums. As of the end of February, 9.4 percent of reverse mortgages were in default on taxes or insurance payments, up from 8.1 percent in July 2011, the report said.
Peter Bell, president of the National Reverse Mortgage Lenders Association, an industry trade group, said that the report "raises valid questions" and that the association would work with the consumer bureau to find the answers.
"All of us want seniors and their children to have a better and more in-depth understanding of reverse mortgages," Bell said. In June, the group launched a consumer education effort called "Borrow With Confidence."
With the potential for rapid growth in the use of reverse mortgages, Cordray said the consumer bureau is worried about some of the report's findings. The average age of people getting reverse mortgages has been dropping — it was 72 as of May 31, down from 76 in 2000, according to HUD — and the most common age for successful applicants now is 62, the report said.
Younger homeowners must make the reverse mortgage money last longer. Compounding the consumer bureau's concern is that more people are taking the money in a lump sum, or close to it, instead of an annuity-like payment. Three-fourths of borrowers in 2010 took at least 90 percent of the money at closing, compared with 43 percent in 2008, the report said.