Common Sense Reforms Reduce Defaults on Reverse Mortgages & Preserve Access
While the reverse mortgage industry has been dogged by high default rates, a new study by Moulton, Haurin, and Shi shows how small reforms to the system can substantially reduce risks to consumers while preserving access to this financial tool. The data is a compilation of financial information, such as loan data and credit reports, for 30,000 seniors who received counseling regarding reverse mortgages from 2006 to 2011. An analysis of the financial characteristics of these consumers shows what is associated with default. Interestingly, size of credit card debt, income, other assets, and a history of bankruptcy are not associated with an increased risk of default. The researchers simulated how different regulations would impact the market for reverse mortgages, with the intention of finding how to lower the risk of default without significantly limiting the reverse mortgage market.
What factors increase the risk of defaulting on a reverse mortgage?
- Low credit scores
- Late payments on an existing mortgage that are at least two months late
- Existing tax liens
- High initial withdrawal amounts, early in the life of the loan
- A large property tax burden
- Limited equity due to a lack of access to credit
The researchers recommend the following policy changes to preserve access to reverse mortgages while lowering the default rate:
- Require applicants to set aside money for property taxes and insurance, which would lower the default rate by 15 percent but only decrease mortgage volume by 1 percent.
- Require an escrow account for property taxes and insurance, which would reduce defaults by 44 percent and mortgage volume by 4 percent.
- Require a minimum FICO credit score would have more substantial impacts on the reverse mortgage industry, but may be worth considering. Establishing a minimum credit score of 580 would lower defaults by 37 percent, but reduce mortgage volume by 14 percent.