Reverse Mortgages and the hidden traps

Asset-rich but cash-poor retirees have been rushing into reverse mortgages. The market has doubled in size in less than two years.

But there are calls from the industry and those who sit on the sidelines for greater regulation and protection for consumers, some of whom are the most vulnerable borrowers in financial history.

The industry is likely to come under even greater scrutiny. The consumer organization Choice is soon to release the results of a shadow shopping exercise involving brokers and the sale of reverse mortgages.

People realize that they need to draw down money just to live, but the problem is that it is an entirely unregulated market.

Strong growth in the reverse mortgage market has followed the boom in property prices and heightened expectations that retirees will fund their own retirement lifestyle.

Reverse mortgages have been around for a while but it wasn't until about three years ago that people started to think 'It's my money and I should be able to use it as I like

Sometimes it is because their circumstances have changed. Perhaps they are grandparents and have to look after grandchildren. But it's also because they have living expenses that they can't meet.

The report of the consumer credit review warns there has been an increase in the number of non-conforming lenders offering reverse mortgages.

In its submission to the review, they warned there are significant risks associated with the loans, including higher than usual interest rates and uncompetitive pricing.

Reverse mortgages carry health warnings because the borrower is not required to pay back any portion of the loan - interest or principle - until the property is sold.

Mainstream lenders insist borrowers are a minimum age and own their own home outright. They also limit the loan-to-value ratio to about 35 per cent or less.

The loans have a "no negative equity" guarantee.  Not all contracts are as watertight as they should be. Some lenders have default provisions that mean they could withdraw the 'no negative equity' guarantee.

Once that guarantee has been granted, all lenders should offer it on an unconditional basis. That means it can't be taken away.

Mainstream lenders won't trigger a default unless there is willful negligence on the part of the borrower. Even then some have an opt-out period where they try to work out with the borrower what can be done to resolve the problem.

Although there is a wealth of difference between mainstream lenders and those who operate on the sidelines, default triggers and "no negative equity" guarantees have yet to be tested.