A version of this post was originally published by Fannie Mae.
Seniors are sitting on a mountain of housing wealth. Homeowners ages 65 and older could access more than $3 trillion in extractable primary residence home equity, but only 6 percent of senior homeowners are interested in tapping into their home equity to help meet retirement financial needs. At the same time, nearly 37 percent of senior homeowners are concerned about their financial situation in retirement. Why are older homeowners so reluctant to draw on housing wealth to secure a more comfortable retirement? Many seniors simply want to avoid debt, while others face structural impediments to borrowing against home equity.
There are multiple ways to access home equity, including selling the home and downsizing, using forward or reverse mortgage products to extract equity without selling the asset, and indirectly consuming home equity by underspending on home maintenance. But our recent analysis, supported by Fannie Mae, finds that seniors rarely use mortgages to access their home equity.
Another recent study similarly found that the proportion of the population ages 62 and older using the four primary mortgage channels for equity extraction (home equity lines of credit [HELOCs], closed-end seconds, cash-out refinance loans, or Home Equity Conversion Mortgages [HECMs]) is low. None of the four channels had an annual origination rate greater than 4 percent in any year between 2004 and 2012, and only HELOCs had a rate exceeding 1 percent.
The most important factor affecting low rates of home equity extraction among seniors is limited demand, which might arise for two reasons:
• Seniors are typically financially conservative and want to avoid debt. This behavior could be related to their desire to leave a bequest or to save for emergency expenses or long-term care. Others might avoid mortgage debt because they’re worried about losing their home.
• Continued improvements in health and medicine are allowing more seniors to work and earn well into old age, reducing the need to depend on home equity extraction.
Beyond these behavioral factors, structural impediments to equity extraction are also at play, including poor financial literacy, the complexity and high costs of some mortgage products, and fear of misinformation and fraud, particularly with reverse mortgages. Postcrisis credit tightening has also affected home equity lending.
As varied as these impediments are, they all lead to enormous untapped housing wealth, which represents a potential solution to the financial strains facing some elderly homeowners and a significant untapped market for the housing finance industry.
We offer several recommendations for easing barriers to home equity extraction, most of which address structural impediments rather than seniors’ conservative attitudes toward debt or their long-held preferences and beliefs:
1. Improve reverse mortgage financial literacy by introducing the product to people at a younger age. This could be achieved by incorporating housing wealth and reverse mortgages into retirement planning. Reverse mortgage literacy might also be improved through enhancements to the Federal Housing Administration’s HECM counseling efforts, via customizing counseling based on the potential borrower’s characteristics and financial needs and by starting counseling earlier in the borrowing process.
2. Reduce the cost of reverse mortgages by simplifying product design, phasing out product options that are rarely used, fostering competition between reverse mortgage lenders, and reducing borrowing costs by improving the liquidity of HECM mortgage-backed securities.
3. Improve access to credit by reducing HECM premiums in a risk-neutral manner, such as by commensurately reducing the maximum amount that can be borrowed. This could be achieved by reintroducing a modified version of the discontinued HECM Saver product.
4. Explore new products and alternative approaches for equity extraction and educate consumers about these developments. Shared appreciation mortgages and converting a portion of the home into a rental are two opportunities.
No single approach can address all the factors that contribute to seniors’ infrequent use of home equity in retirement. Any proposals to address structural impediments by reducing HECM premiums must be studied carefully and, when needed, accompanied by commensurate reductions in risk, particularly given the recent history of HECM program losses.
Even if all the structural impediments were removed, behavioral and attitudinal barriers would keep many senior homeowners from tapping their housing wealth. And we shouldn’t forget that liquefying home equity is not an option for the roughly 20 percent of senior households who rent.
Despite these limitations, these options for expanding access to seniors’ housing wealth offer significant promise for improving retirement financial security and for unlocking a largely untapped lending market.