Reverse mortgages

Bill Dobson, the familiar TV co-host of CBC Vancouver’s The Best Years during the 1980s, worked 25 years to pay off a $170,900 home in North Vancouver before retiring in 1989. Six years later, however, he was wishing for more money to enjoy his leisure years.

The solution? One that is on the rise today (but warrants some forethought before committing to) is a reverse mortgage – a deal under which a professional lender loans you 10 per cent to 40 per cent of the value of your home at current interest rates in return for a stake in the home that can’t be collected until you die or sell the property.

Discovering the ins and outs of reverse mortgages was easy in Dobson’s case. Eight years earlier, he’d interviewed Bill Turner, a local chartered accountant who had picked up on the idea after reading of its success in Europe 25 years earlier. Turner subsequently set up a firm called Canadian Home Income Plan (or CHIP) to market a similar plan in this country.

Six years after leaving the CBC, Dobson at age 64 thought he could afford to do some travelling if only he could access some of the $300,000 his house now represented. After talking it over with his daughr Catherine – his only heir – he approached Turner and, when asked how much he wanted, replied “enough to guarantee me $500 a month more than I’m receiving now.”

A CHIP assistant worked out a few figures and soon arranged a $67,727 reverse mortgage loan to Dobson, which Dobson then used to buy his $520.79 monthly annuity that has helped the widower finance two trips a year to Hawaii. Since then, though CHIP and reverse mortgages haven’t matched European popularity, Christine Perl, CHIP’s vice-president of marketing, says they’re gathering steam and growing by 50 per cent annually in British Columbia, Ontario and Alberta, the three provinces served by the Toronto-based company.

One of the big attractions of the plan to older Canadians is that the loan against the house isn’t payable until the owners die or sell the home. And even in rare cases where property values have declined, as in Vancouver, there’s still no need for seniors to worry – their homes will never be taken away from them.

Another plus for a household where both spouses are 62 or older (the minimum age for a loan under CHIP’s rules) is that while the interest rate under the plan is now 9.15 per cent or four points higher than the yield on a one-year Government of Canada bond, there’s no need to deal with a bank which often wants to see a steady stream of income before extending a loan. And CHIP’s current 9.15 per cent rate compares with the rate most banks charge for a secured or unsecured loan today.

Of course, the interest obligations for the owner, if allowed to accrue – as most are – will eat steadily into his or her equity in the home until there may be nothing to pass on to an heir. But given that, here’s how the CHIP plan works: A senior owns a $200,000 home that’s the largest on the street but needs a new roof and other repairs.

A CHIP appraiser sets the so-called “lending value” of the home at $50,000. The owner agrees, then moves ahead on two fronts: Step one of what is a typical arrangement generally sees the homeowner hiving off $10,000 or so of the $50,000 loan to repair the home, perhaps pay off some debt, take a vacation or assist a son or daughter to buy their own home. What more often than not constitutes step two is the homeowner’s purchase of a monthly annuity from a third party to improve his income flow in years to come.

Embarking on a reverse mortgage is a gamble for both sides. CHIP’s Perl says the company’s contracts contain no foreclosure clauses: “So, any debt to us – including unpaid interest payments – simply accumulates as a charge against the house and is payable only upon death or sale of the house.” Meanwhile, the third-party annuity payments go on until death.

When both spouses die, the home is sold, the debt to CHIP is paid and any equity left is distributed to their heirs. If the spouses’ debt to CHIP is more than the home is worth, the lender loses – the owner’s estate can’t be accessed for more than the selling price of the house. Another plus for the homeowner is that the deals have the blessing of Revenue Canada, which says any reverse mortgage proceeds, together with any money earned with them are tax-free.

Reverse mortgages aren’t for everyone. They may be fine for someone well into their seventies, providing income to pay the bills, take trips, etc. The younger you are, however, the longer – and thinner – your lifetime annuity would be. And the longer you survive, the more equity the lender could own in your house by way of unpaid interest. This, in turn, would diminish the legacy the house would provide your estate.

And who’s to say how much of a mortgage could be arranged? That’s something (called the “lending value” of the property) that an appraiser hired by the lender – but paid by the borrower – will determine. Among the considerations are the owner’s age, the condition of the house and its location. Certain properties – co-operatively-owned units and acreage among them – are ineligible.

Who pays for setting up and discharging the average plan? Those also are expenses charged to the borrower.

CHIP says its clients have many demands on their resources. Apart from simply needing added income, many have homes needing renovation. Others want to travel, and one borrowed to buy a condo in Mexico. Healthcare cuts into the resources of many and others simply want to enhance their lifestyle or guarantee an inheritance to their children. And with today’s low interest rates, Perl notes many of CHIP’s clients are investing in stocks.

“The challenge for this industry”, she says, “is to educate and inform a growing seniors’ population about the existence of plans such as these”.

Some pros and cons of reverse mortgages are offered by three students of the plans: P.J. Wade, author of Have Your Home and Money Too (John Wiley and Sons, Toronto: $21.99), says the overriding need before signing up for a reverse mortgage is to prove to yourself, preferably with some independent professional advice, that your current home will continue to be the best place for you to be over the years to come.

The reason is simple. As Pierce Newman and Paul Tyers of Retirement Counsel of Canada, a Toronto-based commercial finance consulting firm, say in Fiscal Fitness (Prentice Hall Canada, $21.95), assuming you sign up and, as in most cases, allow the interest on the loan to accrue as a charge against the house, “it’s almost certain the debt will grow faster than the value of the house.”

The result could be that an average 70-year-old Vancouver homeowner would, if the value of this current $265,000 house rose by only one per cent a year, have no equity left in the home in 20 years and, thus, without other resources, be unable to purchase alternate accommodation. (If, on the other hand, the value of the house was to increase by five per cent annually, it would be worth $703,000, with $327,000 of that belonging to the lender and the remaining $375,000 to the owner.)

All this would have started with a $54,655 loan to the owner at age 70 which would be enough to provide the owner with a lifetime annuity of $351.35 a month. By comparison, an average Toronto homeowner of the same age with a $212,000 home today, would qualify for a $48,465 loan from CHIP – enough to purchase a $308 lifetime monthly annuity. Though they could continue to live in the home until they died, the home, if it appreciated at only one per cent a year, would be worth $259,000 in 20 years, and the accumulated cost of the CHIP plan would be $290,000. (If the home appreciated over those 20 years by five per cent annually, the home would be worth $562,000, with $272,000 of that still belonging to the owner.)

Among the pros of reverse mortgages Wade cites are these:

• You can continue to enjoy an independent lifestyle and receive equity advances or annuity payments for life.
• Apart from fixed-term reverse mortgages, no repayments are necessary during your lifetime so long as you live in the house.
• You can retain full ownership of the home and delay or avoid the trauma of moving.
• You can also protect other assets and the assets of your family through a non-recourse clause in the contract.

Among the disadvantages:

• You may use up all the equity in your home.
• You may need to move before you’re ready – an important concern with fixed-term reverse mortgages.
• You may not be able to leave the home or its cash equivalent to your heirs.
• You may live with steadily-increasing debt.

Douglas Gray, a Vancouver lawyer-turned-author, notes in his revised Canadian Snowbird Guide (McGraw-Hill Ryerson Ltd., Whitby, Ont., $21.99) that obtaining a reverse mortgage takes an average of four to six weeks, including home appraisal, annuity calculations and other matters. “Most plans are fairly complex, so independent legal and tax advice is essential.”

Some considerations he advises:

• What are the age requirements and do you need clear title to your home?
• Can you transfer the mortgage to another property if you move?
• Can you move out of the house, rent it, and still maintain the home equity plan?