Money

Reverse mortgages: good and bad

Noel Whittaker
Noel Whittaker

INCREASING living expenses mean that many Australians who retire in the next 30 years are going to be doing it tough. 

One way out is to sell the home and rent, another is to take out a reverse mortgage - a loan where there is no obligation to make repayments of principal or interest.  

I like reverse mortgages, if they are used properly, but, as one man I will call Ted, found out, it's very easy to get caught.  He and his wife took out a reverse mortgage in 2007 with a limit of $40,000 and drew it down by instalments to minimise the interest.  To protect himself from rate rises he took an interest rate of 9% "fixed for life".

By 2011 the debt had grown to $47,000, which seemed reasonable in the circumstances, but things took a turn for the worse when his wife died and he decided to move to a more suitable property

This involved paying out the loan but he was horrified to discover that the reverse mortgage provider wanted a "break fee" of $35,000 in addition to the sum owing.  This turned a $47,000 debt into an $82,000 debt.

This was the price of fixing the interest rate.

If rates had gone in the other direction the breaking of the loan contract might have worked in his favour -  he may have got a refund.

So what are the lessons here for anyone who has to resort to a reverse mortgage?  In hindsight, the biggest risk Ted took was the fixed rate loan, which means that retirees may well be safer with a variable rate than a fixed one.  If a variable rate is chosen, borrowers should delay drawing down the mortgage for as long as possible to minimise interest and to reduce the potential term of the loan. 

Also, the essence of a reverse mortgage is it enables the parents to spend money that would normally be left to their children.  If the children can afford it, they should chip in and pay the interest on their parents' loan, so the debt does not increase.

Topics:  noel whittaker


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