Is There a “Right Way” for Credit Unions to Offer Reverse Mortgages to Their Members?

Joe Zampitella
November 11, 2008 | COMMENTS

I want to talk some more about reverse mortgages. I know I've discussed this issue at length already, but the responses I've gotten to past articles persuade me there is still more to say. Some of those responses weren't complimentary, to say the least, but many of the messages were thoughtful, expressing genuine concern about my conclusion that reverse mortgages are a bad deal for most seniors and an inappropriate product for credit unions, but also raising a legitimate and important question about what role if any credit unions should play as reverse mortgages are promoted more aggressively and as borrower interest in them continues to grow. If credit union members are going to seek reverse mortgages, isn't it better if those loans come from credit unions, who know and care about their members and are more likely than other entities to focus on their members' needs?

The answer is yes, at least in theory, but only if credit unions offer these potentially problematic products to the right borrowers for the right reasons and in the right way. The right borrowers are older seniors who have no other viable options for generating the funds a reverse mortgage will provide—borrowers for whom the reverse mortgage is not the first choice, but the last one. The right reason to offer a reverse mortgage is to help older homeowners remain in their homes as cost-effectively as possible for as long as it is possible and desirable for them to do so. And the right way to offer these loans is with consumer protection, not profit, as the priority. Credit unions should offer reverse mortgages, if at all, as a service to their members, not as a revenue source for the institution.

The Time Is Right

A white paper published recently by the CUNA Lending Council suggests that “the time is right” for credit unions to enter the reverse mortgage market and notes correctly that they are well- positioned to do so. The paper cites, among other advantages, credit unions' older membership base and their ability and inclination to slash the high costs that are a major disadvantage (although by no means the only one) of these loans. But while reducing the origination costs and servicing fees will make reverse mortgages less expensive for borrowers, it won't make the loans more appropriate for them, and it is the appropriateness of the loans as much as their cost that makes them problematic. Reverse mortgages, quite simply, are not usually the best choice for seniors, most of whom would be better-served by other financing options.

To offer reverse mortgages “in the right way,” credit unions must assume first that success may be measured more by the number of reverse loans they don't originate than by the number of loans they close. This does not appear to be the mindset of at least some of the credit unions and credit union affiliates that are offering reverse mortgages today. Consider the following example of a model some have adopted:

“We Care for You Financial Institution” is offering investment advice and pooled investment products through a third party—a reasonable strategy for cementing relationships with its members and meeting their financial needs. Eyeing its aging membership base, the credit union is also offering a reverse mortgage, and loan officers are encouraging seniors to obtain one of these loans and invest some or all of the proceeds in a mutual fund offered by a credit union affiliate. The credit union earns a fee for originating the loan and collects an additional fee for the referral to the mutual fund—a nifty way of increasing fee income, and there's nothing wrong with that. But there's a lot wrong with the obvious conflict of interest producing that nifty result. This arrangement clearly serves the interests of the credit union, but the borrower's interests, not so much. Here's why.

Tapping home equity to finance investments of any kind is not always the best strategy, given the possibility that the investment may not generate the anticipated return, and may not generate any return at all. This is a particular concern for older investors, who have less time to recover from failed investments and who, in any event, ought to be focused more on preserving their home equity, especially if their other financial resources are limited. A homeowner whose only asset, or primary asset, is home equity should not be putting any of it at risk. A credit union with its members' best interests in mind would not advise them to do that. A credit union focusing on its fee income might overlook that concern.

The Wrong Tool

Even if the owner's circumstances make an equity-funded investment desirable, the reverse mortgage is not the best tool to use. Why not obtain a first or second mortgage or a home equity loan instead—either of which would be far less expensive and written with a fixed rate rather than the adjustable rate offered on reverse loans?

One answer is that the borrower makes no payments on a reverse mortgage, avoiding the monthly payment required on conventional loans. But this is a dubious advantage, at best for the borrower. Although reverse mortgage borrowers do not make monthly payments, they are still paying for the loan, albeit invisibly, through the steady depletion of their home equity. And because the pricing structure is so complicated, borrowers can't easily calculate how much their reverse mortgage is costing them. If they were aware that they were paying 9 percent or 10 percent on the money they were investing (a conservative estimate when origination costs and servicing fees are included), borrowers might question whether a 4 percent or 5 percent return was really such a good deal. It is in the interests of the entities originating the loans and collecting the investment referral and management fees for borrowers not to ask those questions. But credit unions participating in these arrangements are not keeping their industry's promise to “put members before money.” This is not “the right way” for credit unions to offer reverse mortgages.

A Better Way

Credit unions interested in “the right way,” or at least a better way, should:

• Offer reverse mortgages, if at all, as a service to members, not as a profit center for the institution. And don't outsource the product to third parties interested exclusively or primarily in the revenue. Your members may not be able to sue you if the loan blows up, but they will blame you for recommending it.
• Don't let anyone on commission anywhere near your reverse mortgages. Don't offer incentives for originating the loans or for referring borrowers to originators. If anything, consider offering reverse incentives for credit union staff members who help borrowers identify financing alternatives.
• Put your emphasis on advising members and educating them about reverse mortgages, not on promoting the product. Provide materials (brochures, disclosure sheets, etc.) that describe the loans accurately and in detail, explaining the risks, encouraging borrowers to consider other options, and emphasizing the necessity of obtaining good counseling, financial planning and legal advice.
• Don't assume you know all you need to know to begin offering reverse mortgages. Just because you know how to write a home mortgages doesn't mean you know how to build a house. A reverse mortgage is a different animal. It involves as much counseling as underwriting and requires knowledge of estate planning, life planning, federal entitlement programs, local and state assistance programs and a range of other issues that don't arise with conventional loans.
• Develop a list of reputable, capable, non-profit counseling agencies to whom you can refer members interested in reverse mortgages. Make sure the agencies you recommend:
  • Are not funded by brokers or lenders who originate or underwrite reverse mortgages.
  • Have extensive experience in working with reverse mortgage borrowers.
  • Are knowledgeable about services for seniors and the financing options available to them.
  • Recommend financing alternatives with some frequency. Agencies that recommend reverse mortgages for all borrowers are rubber-stamping applicants, not counseling them.
• Recognize the risks. The CUNA Lending Council white paper makes this point, noting in particular end-of term (if the loan balance exceeds the property value), default (if the borrower is unable to make insurance or property tax payments—a greater risk than the paper acknowledges), and reputation risk, if the credit union is forced to foreclose. Do you want your credit union's insignia to appear in the background when a television reporter is describing the plight of a 99-year-old widow who has no other assets, no equity, and no place to go after you foreclose and evict her from her home? These risks are real, but they are risks for the lenders. Credit unions offering these loans “in the right way” will be concerned primarily about the risks to their members, chief among them, that they will not get the counseling they need to ensure that they do not become that 99-year-old widow facing foreclosure with no assets and no place to go. If you concentrate on the risks to your members, you will reduce the risks to your institution as well.
• Remember what happened to subprime mortgages. The parallels with the way reverse mortgages are being promoted and the risks they entail are clear and frightening. If we ignore those parallels today, 5 or 10 years from now, we will almost certainly be talking about how to “bail out” seniors trapped in loans they didn't understand , and how to deal with the “abusive” financial institutions responsible for creating “the reverse mortgage mess.”
• Keep talking and thinking about reverse mortgages and asking tough questions about them. An open discussion, acknowledging the potential problems as well as the opportunities for credit unions, and recognizing the risks as well as the benefits for borrowers, is the best way to ensure that the reverse mortgage programs credit unions offer will serve their members and their industry well.

Joseph Zampitella is president of Members Mortgage Company. Contact him at 800-316-9790 or joe@membersmortgage.com.