August 21, 2020
As the only way in which retirees can profit by sharing
mortality risk with others in the same age bracket,
annuities should be in the retirement plans of almost all
retirees. That they are not speaks to the chaotic nature of
our private retirement system.
Retirees who could profit from an annuity but don’t, for
reasons discussed below, suffer lower spendable funds over
their life spans. The loss is particularly large among
homeowners with limited or no financial assets. These are
the “cash-poor-house-rich retirees, who comprise a large
proportion of all retirees,
Consider a retiree of 63 who has no financial assets and a
house worth $700,000. To convert that into spendable funds
without selling the house, this retiree has two options
under the HECM reverse mortgage program. One option is a
tenure payment which provides a constant monthly payment for
as long as the retiree resides in the home. The alternative,
which is substantially better but little used, is to draw a
credit line, part of which is used to purchase a deferred
annuity while the remainder is used to provide spendable
funds during the deferment period.
Comparing Spendable Funds Provided by the Options
Comparing the options is complicated by the fact that the
market structures for both HECM reverse mortgages and
annuities are highly imperfect. In both markets, prices can
vary widely on the same transaction. To take account of
that, I shopped 11 reverse mortgage lenders and 10 insurers,
identifying the best and the worst of their quotes. The
results are shown in the table below.
In sum, the payment to the retiree using the credit
line/annuity combination is significantly better than the
tenure payment. The spread between the best and worst quotes
is horrendously large in both cases, a problem discussed
Advantages of the Credit Line/Annuity Combo
The credit line/annuity combination has other significant
advantages over the tenure payment. The major one is that it
can incorporate an inflation adjustment, illustrated in the
chart below. The payment on the combination increases by 2%
a year while the tenure payment is fixed. The chart uses use
the best market quote in both cases.
In addition, payments on the credit line/annuity combo
continue until death whereas tenure payments end if the
retiree moves to a nursing home.
the Credit Line/Annuity Combo Is Stunted: The Role of
Many if not all annuity providers have a policy of rejecting
annuities that would be financed with a reverse mortgage.
The reason seems to be a concern that such transactions
expose them to litigation from disgruntled heirs who claim
they were cheated out of the house they expected to inherit.
This is a well-founded concern, since such cases have
arisen, The need to fix it is compelling, since the policy
affects the homeowners who are most in need of annuities –
those without significant financial assets. The homeowner
with sufficient assets to pay the annuity premium has no
problem combining a credit line with an annuity.
A way to eliminate the litigation risk is discussed below.
the Credit Line/Annuity Combo Is Stunted: The Role of HUD
HUD is hostile to the practice of combining reverse
mortgages with annuities. While HUD cannot tell a borrower
what it can and cannot do with HECM proceeds, it instructs
the counselors who must sign off on the readiness of the
client, as follows:
Determine if client is considering using loan proceeds
to purchase an annuity
Inform client that there are ways to obtain an annuity
without using HECM proceeds
Discuss costs and implications of purchasing an annuity
with the proceeds from a reverse mortgage
Explain that in some cases fixed monthly annuity
advances that continue for life may be smaller than
fixed monthly loan advances from a reverse mortgage for
as long as the client lives in his/her home. (HECM
Protocol, Chapter 5, Section B)
The last bullet point is flat-out wrong. A corrected
statement, based on the evidence provided earlier, would be
that fixed monthly annuity advances funded by HECM credit
lines will almost always be larger than fixed monthly loan
advances from a stand-alone reverse mortgage. The reason is
that the first option involves mortality risk-sharing while
the second does not.
HUD’s stance is inconsistent with its responsibility for
prudent management of the mortgage insurance reserve fund.
The GNMA segment of the fund has been suffering losses for
several years because too many borrowers have been failing
to pay their property taxes and home insurance premiums.
While I have not been able to find any data on this, a
plausible inference would be that the failures have been
heavily concentrated among borrowers who used up their HECM
borrowing power early on. The program allows borrowers to
cash out 60% of their borrowing power upfront, and the
balance a year later. In contrast, the credit line/annuity
combo guarantees that they will have money for the rest of
their lives. HUD should promote it, not pan it.
HUD’s antipathy to combining reverse mortgages with
annuities reflects its concern that the client will be taken
advantage of. They will be confronted with two very
complicated transactions instead of one, and while clients
are counseled about reverse mortgages, the counseling does
not cover annuities — except for a warning.
An effective remedy should deal with the concerns of HUD
about the need to protect borrowers from being exploited, as
well as the concerns of insurers about legal exposure.
Proposal For an Independent HECM/Annuity Integrator
The proposed entity would provide the following functions.
Comparative Option Analysis: A retirement
plan that integrates annuities with HECM reverse mortgages
and financial assets can take many different forms. For
example, annuity deferment periods can vary from 1 to 25
years, annuities can be priced with and without early death
protection, and the yield on financial assets can take many
values. The integrator should be able to counsel retirees on
which combination of features best meets their needs by
comparing their implications for monthly spendable funds and
Legal Protections: The integrator would
protect annuity providers by assessing the overall financial
condition of the client to verify that the transaction is
suitable. In addition, it would require clients to
acknowledge that they have been offered annuity riders for
Cash Refund and Return of Premium on Early Death.
Competitive Pricing: The integrator would
meet HUD’s concern that seniors need to be protected from
predatory pricing by selecting the best prices from networks
of both insurers and reverse mortgage lenders. The selection
of the provider offering the best price can be over-ridden
only by the retiree who has some special reason to choose a
In the best of all worlds, integrators would be certified by
an authoritative source. HUD is a logical choice but has an
unfortunate history of taking forever to get anything done.
In the absence of a plausible certifier, integrators will
have to sell themselves. Since their option analysis, legal
protections and competitive pricing are readily
documentable, self-certification should be workable.
Retirement Funds Integrator
Since there are no integrators at this time, my colleagues
at Mortgage Professor LLC and I decided to develop our own.
Not surprisingly, our patent-pending Retirement Funds
Integrator (RFI)tm has
all the features discussed in this article. Insurers and
reverse mortgage lenders who might wish to participate can
email me at firstname.lastname@example.org.