7 August 2011

Better Protections for Seniors Using Reverse Mortgages

Older Australians planning to take out a 'reverse mortgage' on their home will be better protected against negative equity and other pitfalls as part of the Government's sweeping consumer credit reforms.

The Assistant Treasurer and Minister for Financial Services and Superannuation, Bill Shorten, today asked older Australians and other interested stakeholders to comment on draft legislation that will increase protections for seniors using a reverse mortgage.

"Many senior Australians have worked hard to own their own home before retirement, and if they need to use credit to access the equity in their home then they deserve to be adequately protected," Mr Shorten said.

"These measures deliver a new level of protection for seniors who take out reverse mortgages. Reverse mortgages are different from other credit products and it is important the law takes into account their unique characteristics. With these new measures, older Australians can have greater confidence when using these products, and will be able to make better choices."

Example: Peggy and Bob took out a reverse mortgage twenty years ago. Bob passes away and Peggy is now 85 and has health issues.

Peggy decides to sell the home and move into a residential care facility. However, fluctuations in the property market and the way that debt grows in a reverse mortgage mean that Peggy now owes $1.1 million when the house is only worth $633,000.

Previously, Peggy's lender could require payment of the debt in full to release the mortgage. Now, under the new negative equity protection, Peggy will only be required to pay back the value of her home when it is sold.

This reform gives borrowers certainty about what will happen at the end of the contract, to assist their planning. (taken from www.moneysmart.gov.au)

The changes will amend the National Consumer Credit Protection Act 2009 to significantly reform the regulation of reverse mortgages.

Key measures in the draft legislation are:

  • Australia's first statutory protection against negative equity, restricting lenders from asking seniors to pay more than the value of their home.
  • Better disclosure of the financial consequences of entering into these types of contracts – so that seniors can better assess how accessing credit can reduce their equity in their home and limit their choices in the future
  • New requirements on lenders before they act on a default – including an obligation to take reasonable steps to contact the borrower in person, make sure they understand they are in default and provide the borrower with an opportunity to rectify the default.

"This draft legislation continues the Government's delivery of the National Credit Reforms, and our commitment to improve the regulation of equity release products under the Delivering for Seniors package," Mr Shorten said.

"I encourage older Australians to participate in this consultation and provide their views on the measures outlined in this draft legislation."

The Government has conducted extensive consultations since February 2010 in the development of these reforms, enhancements, including convening a dedicated consultation working group comprised of key industry, consumer group and legal representatives.

Further details of the national consumer credit package, can be found at www.treasury.gov.au/consumercredit.

Consultation on the draft legislation closes on 17 August 2011.

7 August 2011

Background on Reverse Mortgages

A reverse mortgage is a type of equity release product under which a consumer, who is usually at least 60 years, borrows money against the equity in their home, in return for a lump sum, line of credit or regular payment. The debt does not need to be repaid until the home is sold (usually when the borrower dies or voluntarily vacates the home), with interest compounding until that time.

Reverse mortgages therefore have unique risks and complex financial and legal impacts for borrowers different from other more traditional credit products. These include:

  • Interest rate risk – that interest is capitalised, leading to negative equity or insufficient equity to cover the cost of future needs
  • Property value risk – that the borrower's equity in the home may be eroded more quickly due to, for example, unexpected falls in property values, reducing the equity available to the borrower after they have entered into the contract
  • Longevity risk – that the borrower may have ongoing financial needs longer than expected
  • Information asymmetry risk – that borrowers currently may not be able to readily access information regarding the long-term costs of a reverse mortgage and how it may affect their ability to meet future financial needs.

Under the Delivering for Seniors package, the Government will also be enhancing protections for seniors using home reversion scheme products.

Home reversion schemes are another type of equity release product which allows seniors to sell a portion of their home for a fixed lump sum payment. The consumer is able to remain in their home until they die or voluntarily vacate the property.

Enhancements to the regulation of home reversion scheme products are expected to be implemented in a 2012 Bill.