What Is A Reverse Mortgage?
“Because I no longer have a mortgage on my house I am wondering if a reverse mortgage the best way for me to finance the cost of travel that would otherwise eat away at my late husband’s superannuation? Can you explain the concept of a reverse mortgage in plain English?”
Shelly, SA
A reverse mortgage is one option to access the value of equity from your home which is known as home equity release. A word of caution, however, when it comes to reverse mortgage type arrangements: this is a complex area with costs and risks. You should seek independent financial and legal advice before proceeding and if you do go ahead, make sure you 100 per cent understand what you’re signing up for. The good news is, it’s not your only option. There are other potential ways to fund the cost of travel. I’ll discuss three ways here.
Reverse mortgage
This is a “home equity” release arrangement in which your home equity is the value of your home. You can borrow some of this equity by setting up an arrangement with a lender, without needing to sell your home. There are limits on how much you can borrow. According to moneysmart.gov.au, if you’re aged 60, the most you can borrow is likely to be between 15 and 20 per cent of the value of your home. As a guide, add 1 per cent for each year over 60. So, at 65, the most you can borrow will be about 20 to 25 per cent. The minimum you can borrow varies, but is typically about $10,000. Depending on your age and lender policy, you can take the amount you borrow as a regular income, a line of credit, a lump sum or a combination.
Things to be aware of:
A reverse mortgage, could impact your eligibility for social security benefits such as the aged pension because it may increase the assets you hold that are assessable for this purpose (where the value of your home is not assessable).
The interest rate is generally higher than on a standard loan.
There is interest charged on the amount you borrow, and this interest cost is added to the loan, so your debt gets bigger over time.
You can’t end up owing the lender more than your home is worth (market value or equity). This is because reverse mortgages taken out from 18 September 2012 have negative equity protection.
You may not be able to repay your loan early without incurring exit fees.
The amount you owe must be fully repaid when you sell your home, move out or die. This is an important consideration if you need to move to an aged care facility because the net value of your home will be less after paying off the reverse mortgage and the reduced amount of funds may limit your choice of facility.
There are a lot of rules and caveats to reverse mortgages. These loans come with many risks that may not be worth the extra cash. You should be wary of any reverse mortgage offer unless you fully understand the terms and have sought professional legal and financial advice.
Home Equity Access Scheme
This is the proposed new, and more appropriate, name for the government’s Pension Loans Scheme. This is like a reverse mortgage, provided by the federal government, and is available to all retirees with homes and not just pensioners. The key difference between this scheme and commercial reverse mortgages is that the size of its lump sum payments is limited. Payments under the Home Equity Access Scheme have no impact on the pension, whereas commercial reverse mortgages can trigger the means test.
Key characteristics of the current scheme include:
You can choose the amount of loan up to a maximum – where your combined pension and loan payments cannot exceed 1.5 times your maximum fortnightly pension rate. If you are a retiree and not on the pension, you can get an amount equal to 1.5 times the full pension via the Scheme.
There is a maximum amount of loan you can borrow over time. This is based on your age and how much you offer as security for the loan.
It is currently paid fortnightly not as a lump sum (though see below for a proposed change to this).
Interest is charged on the loan – and calculated fortnightly on the amount you’ve been paid to date (not the amount you’re eligible to receive over time).
The interest rate is generally higher than a standard variable rate. On 1 January, 2022 the government reduced the rate from 4.5 per cent a year to 3.95 per cent a year.
The loan can be secured against you home and you can choose how much you offer as security.
You must repay the loan and all costs and accrued interest to the government.
Unlike a reverse mortgage, you can make repayments or elect to stop receiving the fortnightly loan at any time. You’re not locked in.
Legislation was introduced to Parliament in December 2021 which, if passed, will introduce two new measures from 1 July 2022. These are a “no negative equity guarantee” and the option to allow borrowers to receive a portion of payments as lump sum “advance payments”. The introduction of a no negative equity guarantee ensures that a person with an outstanding PLS balance (on or after 1 July 2022) won’t need to repay more than the market value of property used as security under the scheme. This applies to new and existing PLS participants. The other change is the ability to take out up to two lump sums a year totalling up to 50 per cent of the full pension in addition to fortnightly payments. The Scheme is attractive, but not without risk. So always get advice from a financial adviser and/or lawyer before making any decisions about the Scheme.
For more information, see Services Australia or the Department of Veterans’ Affairs.
Downsizing
To simply downsize and buy a less expensive home is more straightforward. This clean and clear option in which you incur no debt can provide you with access to more of your equity. What you need to consider, however, is the cost of buying and selling. Do the numbers: these may be on par or even less than incurring the costs of borrowing via a reverse mortgage or pension loan scheme. And finally, if you receive government benefits, releasing equity may affect your eligibility.
See more here.
Email money questions to: hello@tonicmag.com.au
The information provided is general information and not personal advice. Tonic is not a financial adviser. You should consider seeking independent legal, financial, taxation or other advice to check how the information we publish relates to your unique circumstances. Tonic is not Iiable for any losses caused, whether by negligence or otherwise, arising from the use of, or reliance on, the information provided directly or indirectly, by this website.