Financial planning academic describes how a higher lending limit, lower interest rates and additional understanding of retirement can make a difference for reverse mortgage borrowers.
Wade Pfau, professor of retirement income at the American College of Financial Services and founder of RetirementResearcher.com, recently spoke with RMD about the changes he has observed in the reverse mortgage space particularly as it pertains to the product’s use in retirement planning. Some of the biggest ways that a reverse mortgage could interact with a retirement plan is through attributes like the Home Equity Conversion Mortgage (HECM) lending limit and the question of whether or not a borrower could benefit from a HECM-to-HECM refinance.
In the final part of our conversation with Pfau had on the heels of his latest reverse mortgage book’s release, we discuss what the realities of a higher lending limit could mean for borrowers, what the recent prevalence of reverse mortgage refis could mean for the business and the general receptivity Pfau has noted from reverse mortgage professionals about retirement planning.
What a higher reverse mortgage lending limit means for retirees
At the end of November 2021, it was announced that for the sixth consecutive year in a row the reverse mortgage lending limit under the Federal Housing Administration (FHA)’s HECM program was set to rise in 2022. The increase to $970,800 puts the limit very near to $1 million, potentially eating into the value potential for borrowers with higher value homes who may have previously been better suited by proprietary reverse mortgage options with limits, in many cases, up to $4 million from major lenders.
A higher lending limit has implications for older homeowners who may be seeking reverse mortgage options, particularly since it is possible they could be better served by the FHA product in comparison with private alternatives, Pfau says.
“Certainly if you’re age 62 and your home is valued less than that $970,800 lending limit, that makes the HECM a potentially attractive option for you,” Pfau says. “And certainly, maybe someone with a million-dollar home five years ago would be looking at much less out of the HECM, and so a proprietary option might be a lot more attractive to them [at that time].”
However, for those in similar situations now, the HECM’s higher lending limit could make the more traditional product offering more attractive, he says.
“So certainly, the relatively rapid growth of the HECM lending limit would cut into some of the potential for using a proprietary option, especially with the age-based scenarios of being too young for the HECM,” he says.
Pfau on reverse mortgage refinances
The general prevalence of reverse mortgage refinance transactions led Pfau to include a section on them in the new edition of his book. He also included a few words of caution for any existing reverse mortgage borrowers considering this option, he says.
“That was another area I added just because as noted, there’s been so much growth in the refinance option,” Pfau tells RMD. “The caution is just to make sure that there’s a substantial increase in borrowing capacity through doing that, because there will be costs involved in setting one up. And if you think you may never use that additional principal limit anyway, it may not be worth the need.”
HECM-to-HECM refinances composed 45.9% of all HECM loans in 2021, and 50.8% of all loans in the fourth quarter of the year according to data compiled by Reverse Market Insight (RMI). In Q4 2020, HECM refis made up 35.6% of all endorsements, and in FY 2020 they made up roughly 25% of endorsements based on data found in FHA’s Annual Report to Congress.
The historical drops observed in interest rates and the spikes in home price appreciation (HPA) in 2021 makes the refi trend understandable, but the option should be weighed against the potential pros and cons for an individual, Pfau says.
“Because interest rates had gone lower [and] home prices have been growing so rapidly, because of that growth of the lending limit where somebody who, say had an $800,000 home and opened their HECM at a time when maybe the lending limit was closer to $600,000, they might just be able to get a lot more access through the higher lending limit,” Pfau explains. “Plus the fact that the home is worth more, plus the lower interest rates increasing the principal limit factors, [all these things] led to a lot of the refinancing: just being able to get a much larger principal limit out of the reverse mortgage.”
Reverse mortgage professionals embracing retirement planning
In the book, Pfau notes that he has heard directly from consumers who may have read his book and in sharing the information gleaned from it — and even the fact that he’s read it — with reverse mortgage professionals has resulted in a good experience for the borrower. On top of that, reverse mortgage professionals understand the value of financial planner referral partners and want to learn how to speak their proverbial “language,” Pfau explains.
“There’s been a lot of reverse mortgage lenders who have really shown an interest in learning about retirement planning to be able to have better conversations with financial planners and to speak the same language about things like sequence of returns risk and longevity risk, and how you can think about using the reverse mortgage,” he says. “Not necessarily [because they’re] trying to become a financial planner themselves, but being able to have that dialogue with financial planners. And so I think that’s important because it helps provide context, if you’re talking with a reverse mortgage lender, [to someone] who understands the broader retirement problem that you’re trying to solve.”
In one scenario, Pfau relates a discussion he had with a consumer who described having a better experience with his lender because he was familiar with Pfau’s content about reverse mortgages.
“He really felt that having read the book, and then talking to lenders, those lenders knew who I was and they knew they were working with an intelligent consumer in that case,” Pfau says. “He felt like he really had a much better experience because he was able to say he had read the book. And I just found that really rewarding.”
Lenders generally respond well to borrowers who have examined the financial planning implications of a reverse mortgage on their retirement plans, Pfau says.
“More broadly, when I’m giving a suggestion to a consumer about how to find a reverse mortgage lender, […] if that if that lender is familiar with some of the retirement planning research either [from] myself or even just knowing who Barry Sacks or who John Salter is, that that can go a long way towards just suggesting that maybe that lender can offer a better experience because the borrower is more on top of all of this than someone who’s never heard of any of this financial planning-based research about how a reverse mortgage can contribute to a retirement plan.”