Reverse mortgage: Monetary succour for the elderly that failed to take off

Apart from the sentimental value attached to property, lack of product understanding and certain shortcomings have stifled this potential value-enhancer for India's senior citizens

If you are a senior citizen and struggling to meet daily financial needs, your home can be a source of your livelihood and after a lifespan of working and raising family, senior citizens deserve a good phase of retirement and that’s when financial products come to their aid to lead a hassle-free life. The aged population, who possess a house but do not want to sell it, and yet, need regular cash flow, can opt for ‘Reverse Mortgage’ to help them monetise the value of their residential property.

The product, a loan scheme that permits people aged 60 and above to mortgage their self-occupied home to a lender in return for a loan paid in installments or lump sum, was introduced in India in 2007 for the asset-rich-but-cash-poor elderly people.

As the name suggests, Reverse Mortgage Loan (RML) is exactly the ‘opposite’ of a conventional home loan. In home loan, one pays monthly EMI to the bank, but in RML, one receives payments from the lender.

According to ANAROCK Property Consultants, a ‘Reverse Mortgage’ is a special type of loan against a home that allows the borrower to convert a portion of the equity in the property into cash. The equity built up over many years of home loan payments can be paid directly to the borrower. However, unlike a traditional home equity loan, no repayment is required until the borrower(s) cease to use the home as their principal residence.

 

“The good thing about reverse mortgage is that in case senior citizens’ children are well-off financially and can pay off most of the mortgage amount when the loan matures or the tenure ends, or if an old couple lives alone with no children and don’t feel like leaving their property behind, they can opt for this loan scheme”, says Varun Kalsi, Partner at PSA Legal Counsellors.

How RML works

Collateral: A borrower pledges the property as collateral to a bank or any financial institution which issues loan to the borrower based on the valuation of the property.

Monthly payments: After the property is pledged, the borrower is eligible to receive fixed periodic (monthly, quarterly, annually or lump-sum) payments from the bank at a defined interest rate. Unlike a home loan, the borrower is not required to make monthly payments towards interest and principal to the bank. The payments made by the lender over fixed loan tenure are known as ‘reverse EMI’.

Property valuation: The pledged home’s monetary value is determined by the lender based on the demand for the property, current rates, price fluctuations and the condition of the house. The lender revalues the pledged property every five years and increases the quantum of loan if the valuation rises gradually.

Occupation: Under the Reverse Mortgage scheme, the owner (borrower) of the property is supposed to stay in the pledged house as a primary residence during the tenure of the mortgage loan while he or she continues to receive periodic payments. 

Loan amount: The maximum monthly payment under this loan scheme is capped at Rs 50,000, and the maximum lump-sum payment to be made is 50 per cent of the total loan amount with a cap of Rs 15 lakh. But the house owner house should keep paying all the taxes related to the property, insure and maintain it as their primary residence. The loan amount increases gradually as the borrower receives payments and interest accumulates on the loan and home equity declines over time.

Loan tenure: The maximum loan tenure is between 10 to 15 years. Though, some financial institutions are offering till 20 years. After the loan tenure is over or the borrower lives longer than the tenure, the lender will not make any more payments, but the borrower can continue to stay in the house.

Interest rates: Interest rates are charged on the payments borrower receives from the lender. Interest payments on the loan amount are deferred to the end of the loan tenure and are not paid out-of-pocket, up-front, or monthly. Basically, Reverse Mortgage defers all loan and interest repayment to the time when loan amount matures.

Reverse Mortgage’s loan maturity can occur if:

• The property is sold
• Borrowers either move out of the house or both pass away
• Loan default happens when borrower fails to pay property taxes, home insurance or doesn’t comply with loan’s terms and conditions
• The contract completes its tenure, even if the borrower is alive

Obligations: The pledged property’s owner is obligated to keep paying property taxes, insurance-related funds, and maintain their property in good condition. The borrower can face foreclosure and lose the property if he does not stay in the house for more than a year, defaults on tax payments, becomes bankrupt, abandons the place or rents out the house for income generation.

Settlement: A Reverse Mortgage loan becomes due when both the borrower and the spouse die, or if the borrower chooses to sell the property. In case of death, the lender asks the deceased’s kin to repossess the house by settling the loan amount along with accumulated interest rates. If the legal heir is unable to settle the loan, the lender recovers the amount from the sale proceeds of the property. Any differential amount (surplus) left after the recovery of loan is paid to the legal heir. 

Example: Mr Sharma has a property with market value of Rs 40 lakh. With a loan-to-value ratio of 80 per cent, he is eligible for a reverse mortgage of Rs 32 lakh. Effectively, it means he will have to repay Rs 32 lakh to the bank, at the end of five, 10 or 15 years, depending on how long he wants to keep the monthly installment flowing into his account, subject to his being eligible for the chosen tenure. If the interest rate that the bank is charging is nine per cent a year, his will get approximately Rs 42,110 per month for five years. Mr Sharma will receive monthly payouts of Rs 16,410 or Rs 8,390 in case the contract is for 10 years or 15 years, respectively.

Shortcomings

The concept of Reverse Mortgage was introduced in India 11 years ago, but it still struggles to garner a serious following due to a number of reasons, the most glaring of which is the fact that there is not much clarity on this product in the country. Apart from being considered as a last resort of income, the biggest misconception about reverse mortgage is that people think the property under the scheme gets irretrievably pledged to the lender.

"There are three reasons why reverse mortgage has not proved to be popular in India. First, Indians look at owned property as a primary asset, ideally to be handed down generations and not encashed in any form unless extreme financial issues prevail. Secondly, Indian culture has the care and support of senior citizens hard wired into it - elderly people who own properties in this country do not, as a rule, lack the financial wherewithal to support themselves in their golden years. Thirdly, the product itself is not as well understood in India as traditional home loans are. In any case, it does seem that unless the classic reverse mortgage is tweaked in a manner to make it more palatable to Indian sensibilities and values, it is not likely to become a big hit", said ANAROCK Property Consultants.

Disadvantages

The product has a high interest rate and is slightly expensive than the home loan.

Longevity issue: The loan tenure is usually not beyond 20 years. For instance, if a 60-year-old opts for RML scheme for 20 years, and outlives the tenure, the lender will stop paying periodic payments and the borrower would have to repay the amount at the age of 80 to retain the property.

Fixed payout: In case of an emergency, the payouts cannot be increased. 

Reverse Mortgage is one of the most misunderstood financial products in India and is regarded as a complex scheme by senior citizens who are most vulnerable to scams and frauds. This loan scheme has a flip side the superficial knowledge of which can cause trouble in the post-retirement phase. The elderly population is hesitant to consider this scheme as the Reverse Mortgage loan ignores inflation factor and doesn’t cover provision to increase the payout.

Due to the long-term nature of this loan with risks involved, senior citizens worry about what if the value of the house depreciates gradually and decreases below the loan value? They cannot ask the lender to pay more and a potential litigation from heirs at the end of the tenure is also a fear.