By Maya Jackson Randall
WASHINGTON--A U.S. financial regulator is warning new rules may be needed to address hidden dangers in reverse mortgages, the special loans that enable cash-strapped senior citizens to borrow against the equity in their homes.
Deceptive marketing practices, complicated loan terms and misleading marketing materials are some of the problems the Consumer Financial Protection Bureau highlighted in the $90 billion industry, which is expected to grow in popularity as tens of millions of baby boomer homeowners grow older and struggle to pay for retirement.
Any new regulations would impact industry leaders such as Quicken Loans and Wall Street financial firms like Guggenheim Partners and Knight Capital Group Inc. (KCG), which own companies that make reverse mortgages. Top banks such as Bank of America Corp. (BAC) and Wells Fargo & Co. (WFC) have exited the market amid rising defaults and declining home prices.
Nearly 10% of reverse mortgage borrowers are at risk of foreclosure because they have failed to pay taxes and insurance, according to the CFPB's study, mandated by the 2010 Dodd-Frank financial overhaul.
Reverse mortgages, targeted at homeowners over the age of 61, are similar to home equity lines of credit. But instead of paying a monthly payment, repayment is deferred until the homeowner leaves the home, dies or fails to maintain the property, pay homeowners insurance or property taxes.
The upfront fees, interest and closing costs can be much higher than home equity loans. Also, while there are no required monthly payments on a reverse mortgage, the interest is added to the loan balance each month, and so the rising loan balance can grow to exceed the value of the home.
The loans represent a small corner of the national mortgage market, with only about 2 to 3% of eligible households using them, according to the CFPB. But studies show demand is growing, expanding the pool of 580,000 currently outstanding, according to Reverse Market Insight.
Peter Bell, head of the National Reverse Mortgage Lenders Association, said better consumer education is necessary, and he shares concerns about misleading advertising and scams, adding that most consumers who have the loans are satisfied.
Seventy percent of borrowers are taking out the proceeds as a lump sum as opposed to a line of credit or stream of payments, according to the bureau's study. Such a move could result in borrowers having trouble paying taxes and insurance on their homes, which could put them at risk of default.
Monica Newton, a 68-year-old resident of Chireno, Texas, says she has had troubles with unexpected bank fees and charges on her reverse mortgage, but she says in general the product is "really good for old folks" who aren't concerned about leaving their homes to their kids or other family members.
Newton used cash to purchase her home for about $140,000 and decided to take out a reverse mortgage about five years ago when she needed extra money to cover retirement expenses. She said she's worried about being able to keep her house maintained to her lender's standards.
Write to Maya Jackson Randall at Maya.Jackson-Randall@dowjones.com