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If you've been reading these articles regularly, you'll know how often we have stressed on the need to save for retirement. About how it's never too early to start, and about the damage caused by inflation and rising costs. Which is all very well if you're a 20- or 30-something, who can start a retirement savings plan now and aim to make a comfortable nest egg by the time you retire.
But what about those who realise on the eve of their retirement that their retirement funds are actually just a pittance. Their options are tragically limited: sell house and live off that money in a smaller house, or give house to the child and live with him/her.
Most people are unwilling to consider the first option, as a house is an asset that is acquired for generations to enjoy. It also becomes difficult to shift to a new location after retirement. And living with children is not something most modern-day retirees want to do, as it means compromising on their independence. Also with nuclear families and jet-set lifestyles becoming the norm, many people find it hard to devote time to their parents. Mushrooming of old age homes across the country attests this trend.
"These days the urban male in India typically lives up to the age of 82," says S Sridhar, chairman and managing director, National Housing Bank. Considering that the retirement age in India is 58, one typically lives 24 years after retirement. With rising inflation, it becomes difficult to fund these years by investing in traditional instruments.
The elderly cannot afford to invest their hard-earned money in riskier instruments, which offer higher returns than traditional instruments, at this stage of their life. So what can the elderly in India do to fund their retirement years?
The answer can be found in the West, specifically in the US, where the concept of reverse mortgage is hugely popular among the newly retired. Essentially, a reverse mortgage is a loan against your home that you do not have to pay back for as long as you live in that house.
Recently, NHB has come up with a reverse mortgage plan, which promises to be a boon for the elderly if it becomes a reality. Outlook Money takes a look at the concept of reverse mortgage and how it will help the elderly to fund their retirement years.
"According to surveys that we have conducted, we feel that there is a need for a product like this for the elderly. Providing such a product is also in line with NHB's broad objective of providing long-term housing finance to the un-served and the under-served sections of society," says Sridhar.
The concept
"If you take a look at an individual's balance sheet, you will find that house is the single-largest asset," says Gaurav Mashruwala, Mumbai-based financial planner.
In your working life, when you buy a house on loan, with every equated monthly installment that you pay, your equity in the house increases. When you pay up your entire loan, your equity in your house is 100 per cent. In reverse mortgage, you do the opposite.
The concept of reverse mortgage seeks to enable house-owning senior citizens to meet their expenses without selling their house.
Reverse mortgage is so named because the payment stream is reversed, that is instead of the borrower making monthly payments to the lender (as in a conventional mortgage), a lender makes payments to the borrower.
As per NHB's proposed scheme, the loan amount shall be extended as regular monthly or periodic cash advances or as a line of credit to be drawn at the time of need. "In case you want a line of credit, then you will be required to pay a commitment fee," says Sridhar. Lump sum withdrawal of loan shall be permitted for restricted uses such as for upgradation, renovation and extension of residential property.
How does it work?
Suppose the value of your house is assessed at Rs 40 lakh (Rs 4 million) and you are 65 years of age. Under the present recommendations, you will be eligible to get a loan for 15 years that is till you turn 80 years of age.
Supposing you are eligible to unlock 60 per cent of the value of the house, then you can receive Rs 24 lakh (Rs 2.4 million) through reverse mortgage. And supposing you are eligible to receive Rs 8,000 every month, you will receive Rs 96,000 every year for the next 15 years, assuming that changes in the value of the property do not affect the payments to you.
At the end of 15 years you would have received a total of Rs 14.40 lakh (Rs 1.44 million). The interest component (compounded annually) on this amount, will be Rs 21.38 lakh (Rs 2.1 million).
So the total amount that you owe to the bank will be Rs 35.78 lakh (Rs 3.6 million). However, if you die at end of the loan tenure, then the bank will sell the property to realise what you owe them, that is Rs 35.78 lakh, the balance will be passed on to your heirs.
Supposing the value of your property has appreciated to Rs 65 lakh (Rs 6.5 million) during the tenure of the loan, your heirs will receive Rs 29.21 lakh (Rs 2.9 million). However, if your heirs want to keep the property, they can settle the amount that you owe to the bank and keep the property.
The procedure
You have to approach a housing finance company or a bank and express your interest in pledging your home for the reverse mortgage scheme. The HFC will asses the value of your house and, depending on your age and the prevailing interest rate, the amount of loan payable to you will be decided upon.
The value of the house will be determined by independent valuation through the generally accepted property valuation methodology in the industry. The loan amount will be fixed on the basis of current value and not on possible future appreciation. "There would be a provision for periodic valuation and consequent adjustment of payments," says Sridhar.
However, the most critical factor in deciding the amount is age. The older you are, the chances of getting a higher value are more. "This is because the lender will have to typically provide the loan for a lesser number of years," says Sridhar.
The interest rate at which the loan will be given will typically be marginally higher than the prevailing interest rates as the lending company will receive its money when the borrower dies. However, currently on the basis of present actuarial analysis, the loan to value ratio is fixed at 45-60 per cent of the value of the property based on the age.
What if you outlive the loan tenure? Under the present recommendations of the NHB, you need to be 62 years of age and the tenure of the loan is fixed at 15 years. "There have been recommendations to lower the age to 60 as people usually retire at that age. The primary lenders shall however have the discretion to consider a shorter/longer tenure," says Sridhar.
However, if you outlive the tenure of the loan, you will not be asked to move out of the house. Although payments made to you will stop after 15 years, the interest will keep accumulating till the accounts are finally settled.
There is talk of adding insurance to reverse mortgage. So the premium for that will be deducted from the payment made to you. The corpus accumulated at the end of 15 years will be used to fund the years that you outlive the loan tenure.
There are also suggestions that a certain portion from the payments be parked in bank fixed deposits to fund the years that you outlive the loan. The accounts will be settled by the HFC only after your death or if you vacate the property.
The settlement of the outstanding loan amount, along with the accumulated interest, will be met by the proceeds of the sale. In the event of your death, your spouse can continue to occupy the property until his/her demise, and he/she usually made a co-borrower.
Re-reverse mortgage
Supposing you pledge your property for reverse mortgage and midway through the tenure, you receive money either by sale of some investments or your children provide you money to pay the amount and the interest you owe to the bank, you can free your property. You can also pledge the same property for reverse mortgage in future, if you are in need of cash.
The costs: Apart from interest on the loan, you will have to bear other costs as well. These include closing costs of the primary lenders such as loan processing charges, documentation costs and commitment fees on undrawn loan amount.
Adds Veer Sardesai, Pune-based financial planner: "Usually costs that the consumer bears are charges similar to that of a normal mortgage in addition to an origination fee and an inspection an and appraisal fee."
The benefits: In the absence of provisions for social security in the country, a product like reverse mortgage has numerous benefits. You will be not be financially dependent on anyone. The loan that you receive is not serviced during your lifetime.
While you unlock the value of your house, you continue to live in that property. Reverse mortgage enables fund inflows when income sources are generally restricted and tend to fall markedly as compared to your working life.
An investment option
With reverse mortgage expected to become a reality soon, it makes sense to buy a house early in your working life so that you can unlock its value in your retirement years. Reverse mortgage however, does not strictly compare with other investment options like mutual funds, post office schemes and bank FDs.
The overriding objective of reverse mortgage is to address the financial needs of the house-owning, asset-rich but cash needy senior citizens as a significant option. Reverse mortgage is not in substitution of other avenues of funding one's post-retirement years.
NHB is working towards speedy introduction of this concept. As the apex financial institution for housing in the country, NHB has designed the product on ready-to-deliver mode based on specific needs of the asset-rich but cash-poor senior citizens.
It will endeavour to popularise reverse mortgage as one of an array of post-retirement financing options. NHB will not provide retail loans but it can refinance reverse mortgage to banks and HFCs. And in the event of a borrower seeking additional assurance that the bank/HFC will continue to provide payments under reverse mortgage for the contracted period, NHB can guarantee such obligations.
Since the concept of reverse mortgage is new in India, there are a number of issues that may arise and need to be addressed by the authorities for ensuring its successful implementation. These issues mainly pertain to tax-treatment, accounting, legal and regulatory aspects. "With the support of the government and the regulatory bodies, we hope to be able to launch the product as soon as possible," says Sridhar.
Reverse mortgage in the US
Reverse mortgage was introduced in the US in the late 1980s. Since then, the number of people pledging their property for reverse mortgage has been on the rise. Take a look at the numbers.
In 1990, there were just 157 people who had opted for this product. In 2006, 59,781 people opted for reverse mortgage. The concept in India is similar to the one in the US.
To be eligible for reverse mortgage, you should be at least 62 years old and own a property.
"In a reverse mortgage, you borrow money using your home as collateral but there aren't any payments. The interest that is charged is added to the balance owed. That means you owe more each month. When you die or when the house is sold, the debt gets paid off," says Jeffrey D. Voudrie, CFP, CEPP, president, Legacy Planning Group Inc.
Once you pledge your property for reverse mortgage, you will receive funds as long as you live in that property. There are three main sources that home owners can tap in the US. One of these is the federally insured Home Equity Conversion Mortgage, administered by the Department of Housing and Urban Development.
The majority of people opting for reverse mortgage go for HECM as it offers the best interest rates and loan amount. However, if they opt for government-insured reverse mortgages, then they will also have to pay a fee for Federal Housing Administration insurance that will protect against the value of the home going below the loan amount.
There are also single-purpose reverse mortgages, offered by state or local government agencies for a specific reason and, lastly, proprietary reverse mortgages offered by banks, mortgage companies and other private lenders.
People planning a property reverse mortgage have to undergo a free mortgage counselling from an independent government-approved "housing agency". Reverse mortgages offered by other financial institutions also require individuals to undergo similar counselling.
"Seniors like this product because it allows them to stay in their homes and they are not required to make monthly payments," says Voudrie. However, a concern among most elders is the rising interest rates, which increases the cost of the loan.