Many older Australians are asset rich but cash poor. This type of mortgage allows you to take some of the equity out of your property. This allows you access to extra funds that are otherwise ‘locked’ in your house.
A reverse mortgage is a complex product that can have a significant impact on your finances and relationships, and your quality of life in retirement.
Here are some important things to consider before you decide to take out a reverse mortgage.
1) How do ‘reverse mortgages’ work?
A reverse mortgage allows you to borrow money using the equity in your home as security. The loan can be taken as a lump sum, a regular income stream, a line of credit or a combination of these options. While no income is required to qualify, credit providers are required by law to lend you money responsibly so not everyone will be able to obtain this type of loan.
Interest is charged like any other loan, except you don’t have to make repayments while you live in your home – the interest compounds over time and is added to your loan balance. You remain the owner of your house and can stay in it for as long as you want.
You must repay the loan in full (including interest and fees) when you sell your home or die or, in most cases, if you move into aged care.
2) How much can you borrow?
- The older you are, the more you can borrow. Different lenders may have different policies about how much they will let you borrow.
- As a general guide, if you are 60 the maximum amount you can borrow is likely to be 15-20% of the value of your home. You can usually add 1% for each year older than 60. That means if you are 70, the maximum amount you could borrow would be about 25-30%.
- The minimum amount you can borrow may depend on the provider. It could be as low as $20 000. Keep in mind that if you borrow the maximum amount now, you may not have access to any more money later.
3) How can you take the loan in one go or in instalments?
You can take the loan as a lump sum, regular income stream, line of credit or a combination of these options. Regular income stream payments may be less costly than a lump sum.
4)How much will it cost?
Graph from ASIC website
- The cost of the loan depends on the interest rate and fees. The main issue is that as the interest compounds, the debt will grow rapidly.
- Some reverse mortgage products also allow you to protect a portion of the value of the property. For example, you might want to ensure that you have $200,000 left in case you need a bond for an aged care hostel. Use our reverse mortgage calculator to explore your options.
- If you are borrowing money from a lender other than an Authorised Deposit-taking Institution such as a bank, building society or credit union, by law they must not charge more than 48% interest including all fees and charges.
- A reverse mortgage can be useful to relieve financial pressure or improve your lifestyle. Be aware of the conditions of the loan and the choices available. Use a licensed mortgage broker and seek financial advice from eg your accountant and think about discussing your decision with your family before you commit to a reverse mortgage.
5) What are the risks of a reverse mortgage?
- Interest rates are generally higher than average home loans
- The debt can rise quickly as the interest compounds over the term of the loan – this is the effect of compound interest and is something you need to be aware of before making any decisions
- The loan may affect your pension eligibility
- You may not have enough money left for aged care or other future needs
- If you are the sole owner of the property and someone lives with you, that person may not be able to stay when you die (in some circumstances
- If you fix your interest rate then the costs to break your agreement can be very high
- Do not spend all the money you receive when getting a reverse mortgage. You may not want to think too far into the future or about how your health and living situation might change 10, 20 or even 30 years from now. But it is important that you start planning now for the extra costs you could incur like medical expenses and aged care, so that you will have enough money left to cover them.
6) What is the impact on my Centrelink payments?
Talk to the Department of Human Services’ Financial Information Service to check how a reverse mortgage would affect your pension entitlements.
7) Check SEQUAL membership
Some reverse mortgage providers are members of SEQUAL (an industry association). All their members agree to minimum standards (such as no negative equity guarantee).
8) Get independent legal advice
Ask your legal adviser to explain the fine print of the reverse mortgage contract so you understand the consequences of breaching any terms and conditions.
9) Government introduced Negative equity protection so you don’t end up owning the bank more than your property is worth
On 18 September 2012, the Government introduced statutory ‘negative equity protection’ on all new reverse mortgage contracts. This means you cannot end up owing the lender more than your home is worth (the market value or equity).
When the reverse mortgage contract ends and your home is sold, the lender will receive the proceeds of the sale and you cannot be held liable for any debt in excess of this (except in certain circumstances such as fraud or misrepresentation). Of course where your home sells for more than the amount owed to the lender, you or your estate will receive the extra funds.If you entered into a reverse mortgage before 18 September 2012, check your contract.
When the reverse mortgage contract ends and your home is sold, the lender will receive the proceeds of the sale and you cannot be held liable for any debt in excess of this (except in certain circumstances such as fraud or misrepresentation). Of course where your home sells for more than the amount owed to the lender, you or your estate will receive the extra funds.If you entered into a reverse mortgage before 18 September 2012, check your contract.