Article on Reverse mortgage

Potential of Reverse Mortgage Loan as a Retirement Planning Tool in India

Bantwa Ashok R.1

 Acharya Sumitkumar S. ¹

1. Shree Swaminanyan Institute of Management, Porbandar, Gujarat.

Bantwa@gmail.com

sumeet.sim@gmail.com

Abstract

The main objective of this project is to study the feasibility of reverse mortgage loans as a retirement planning tool, to find the major challenges against the acceptance of reverse mortgage loan in India and to understand the level of acceptance of reverse mortgage loan. The data has been analyzed by using various tools like five force analysis, PESTEL analysis, SWOT analysis etc. After the detailed research it has been found that retirement planning done by most of retired people are not adequate to satisfy their current needs and majority of them are dependent on transfer from their children as their current source of income. So there is huge growth potential for reverse mortgage loan.

 Keywords

Reverse Mortgage, PESTEL, Five Force, SWOT, Needs. Growth Potential.

Introduction

Senior Citizens are a growing section of the Indian society and dependency in old age is

increasing in the country. While on the one hand, there is significant increase in longevity and low mortality, on the other hand cost of good health care facilities is spiraling and there is little social security. Senior Citizens need a regular cash flow stream for supplementing pension/other income and addressing their financial needs. Secular increase in residential house prices has created considerable “home equity “wealth.

 For most Senior Citizens, the house is the largest part of their assets. A reverse mortgage loan is a loan where the lender pays the monthly installments to you instead of you making any payments to the lender. Hence the name reverse mortgage, as the payment stream is reversed. A Reverse mortgage enables senior citizens to convert their home equity into tax-free income. Reverse mortgages enable eligible homeowners to access the money they have built up as equity in their homes. They are primarily designed to strengthen seniors’ personal and financial independence by providing funds without a monthly payment burden during their lifetime in their home. The major eligibility requirements are that the applicant must be at least 62 years of age and own and occupy a home as their personal residence. The type of home that qualifies as a personal residence can be a single family residence, town home, multiple unit building (1-4 Units), or mobile homes with a permanent foundation .

Research Objectives

1. To study the reverse mortgage loans as a retirement planning tool

2. To understand the level of acceptance of reverse mortgage loans.

3. To find the major challenges against the acceptance of reverse mortgage loans in India

4. To provide recommendations to the companies providing the reverse mortgage loans

Sampling Design

Sampling design includes various aspect and they are as follows:

Type of sampling: Random sampling

Sampling unit: People above the age of 60 years

Sampling Area:  Ahmedabad

Sample Size:  50 respondents

Beneficiaries

This research will be useful to the companies providing and planning to provide reverse mortgage loan.

This research will provide a better insight to the individuals who want to avail the reverse mortgage loan.

The research will be also useful to the researchers to gain learning experience from the research into an upcoming topic.

Analysis

SWOT Analysis

Strengths

·         The senior citizens are entitled to regular cash flows at their choice - monthly, quarterly, half yearly and annually. 

·         The loan is given without any income criteria at an age where normal loans are not available.

·         No loan servicing or repayment required during the lifetime of borrower and spouse.

·         If the borrower dies during the period, the spouse will continue to get the loan amount for 15 years.

·         Tax treatment of a RML will be as loan, not income, so no tax will be payable on the regular cash flows.

·         The borrower and their spouse can continue to stay in the house till both die.

·         Heirs of the borrower will be entitled to get the surplus of sale value of the property.

·         Borrower/heir can get mortgage released by paying loan with interest without having to sell property at any time. Prepayment of loan is allowed.

·         NHB to guarantee obligation of banks/housing finance companies to pay the committed loan amount as regular sums over a period of time.

·         Reassessment of property value will be done periodically or at least once every 5 years.

·         Borrower can cancel the mortgage within three days of approval/disbursement, subject to return of loan amount.

Weaknesses

·         This loan product has a maximum tenure of only 15 years. If the borrower outlives this period, the regular cash flows will stop.

·         Basis of property valuation is not clear.

·         Requirement of clear title to property in the name of the borrower to get the loan.

·         Three days period to cancel loan is too less. Should be at least 15 days to go through the fine print.

·         Various fees to be added to borrower’s liability, which can be quite substantial.

Opportunities

·         Partial substitute for a social security scheme for senior citizens.

·         Longevity increasing with nuclear families. However, medical expenses and cost of living going up, increasing the need for additional income in old age.

·         Most Indians have strong preference for own home. Therefore many eligible citizens may opt for the scheme.

·         Quantum of loan can increase favorably for borrower on revaluation of property.

Threats

·         Property valuations are ambiguous.

·         There is a non-recourse guarantee, which means that loan plus interest should never exceed realizable value of property. In case of fall in property value or loan with interest exceeding assessed property value, banks may resort to strong-arm tactics to force the borrowers to move out, if they live too long after the loan period is over.

·         Rate of interest is at the discretion of lender. Any increase in the rate, if floating, will increase the burden of the borrower.

·         Lender has discretion to raise loan amount on revaluation. However, if it does not do so, borrower doesn't get loan according to proper value of property.

·         Lender has right to foreclose loan by forcing sale of property if borrower doesn't pay for insurance, property taxes or maintain and repair house. Can lead to further harassment.

·         This product seems very good in theory and can be of great help to senior citizens who can live in their own houses and yet avail of a loan against it. However, the norms need to be fine-tuned and made watertight so that these borrowers are not harassed or short-changed in their old age.

PESTEL ANALYSIS

PESTEL Analysis is a simple, useful and widely used tool that helps you understands the "big picture" of Political, Economic, and Socio-Cultural and Technological environment. As such, business leaders use it worldwide to build their vision of the future.

Political:

·         As a concept is new in India it may experience significant changes with the change in governments in power.

·         40% FDI limit is allowed in the sector, so many foreign player are attracted in the sector like Citi bank, standard charted bank etc

·         Housing sector as a whole contribute 5 percent of our total GDP which make this  sector more important So government direct interference is always there.

·         The frequent changes in guidelines of National Housing Bank (NHB) and Reserve Bank Of India (RBI) also affect the reverse mortgage sector in India

·         Regulation of secularization and mortgage on the security is quite stringently curb the growth of the sector. And current bearcats make thing little difficult for various procedure

Economic:

·         The business of reverse mortgage is on growth stage in the country. The strong presence of financial market in the country and various financial institution  provide the money for the sector

·         Still a large part of Indian people are not making adequate retirement planning. They often faces the problem of insufficient income after retirement.

·         The cost of living is increasing with the passage of time because of inflation rate.

·         Demand of the new homes has increased tremendously during last year which sows that more number of people would have their own home after retirement.

Socio-cultural:

·         As per Indian psyche, it is comfortable to think that the younger son will take care of there parents during there old age. But today’s younger generation prefer independent life and nuclear family. They are drifting away from the traditional joint family set up when there is no physical or financial supports from elders. So there is a need for retirement planning.

·         One typical feature of senior citizen in India is that they spend most of their work life earning in buying a residential property for themselves. This residential property accounts for significant proportion of their total assets value. As any immovable property is less liquid it fails to help on liquidity front. In above circumstances a reverse mortgage loan is a welcome addition to the retirement planning tool.

Technological:

·         The development and advancement in the medical technology have increased the average life span of people. Retirement planning acquires added significance because of the fact that though longevity has increased the number of working years have not.

·         Online payment, e-banking and other facility make thing better for consumer of industry. Most of player offer on-line application of home loan and e-payment facility. Stronger IT-Infrastructure makes private bank like HDFC and ICICI different from others players. and lead to greater brand name and customer satisfaction

·         E-surveillance and on-line processing make strong access system for inquiry for sector. And strong data base make less error in the inquiring and fast processing for loan

Legal issues

·         The necessary regulations have to be put in place. This would require new laws apart from amending some of the existing ones such as the NHB Act, RBI Act, etc.

·         Besides, there is a tax angle to all this. Should this amount received from the bank be treated as income (and hence taxable) or a loan (therefore, no tax)?

·         Further, as the experience in US shows, mortgage insurance would become important. This would protect the bank in case there is a shortfall in the sale proceeds vis-à-vis the loan amount. Otherwise, it is the lender, which bears the loss. The borrower is not asked to pay the difference, if any. Nor can he be forcibly evicted.

Michel Porter’s Five-Force Analysis

Customers bargaining power

·         Buyer power is high because as the concept is new in India. Until recently (2 years back) this phenomenon was absent entirely. Bank and housing finance companies want to promote it at any cost.

·         Availability of other retirement planning tool is also adding to the bargaining power of buyers.

·         Companies are wooing the customers on the basis of various frills added to their offerings. Differentiation is the only way to attract the customers and make them feel good. Aspects like brand and quality have come up. In all now customer has some value in the market or great value.

Suppliers bargaining power

·         For the industry like housing finance identifying the supplier is very tricky and difficult. The lenders to the HFCs in the form of bonds and other instruments can be termed as one of the suppliers of funds. For banking HFC it is the retail saving account deposit and all other term deposit is the source of funds. NHB can form a major part of this funding because of their refinance schemes available only to the HFCs.

·         The other factor that can be considered is services obtained by HFCs from industries like construction, information technology and marketing support in terms of direct marketing channels.

·         Let’s take each one in detail and try to assess the ability and power to influence the industry.

·         Lenders to the HFCs in terms of Bond & other instruments holders: These investors holds very low amount of power in influencing the players as they subscribe to what these players offer, but factors like increasing competition between the HFCs & Banking firms has lead to sharp fall in the interest rates in Home loan segment, that intern squeeze the option of issuing high rate bonds, so low attractiveness for investors. The other factor is of increased investor’s awareness about various investment instruments.

·         Saving and Term Deposits with Bank: they really don’t have any bargaining power as such, in most of the cases the interest on such deposits are fixed and the investor can’t do anything about it.

·         NHB Refinance:  NHB hold some power in influencing the industry through its refinance activity, where in NHB is deciding factor about the rate at which it will refinance the existing loans, but government’s commitment towards servicing the industry to fulfill its social objectives reduce its impact.

Threat of substitutes

·         Reverse mortgage loan have the threat of following substitutes

­    Pension fund

­    Private pension plan

­    Government sponsored pension plan scheme

­    Work after retirement

­    Other retirement planning tool

·         Almost all substitute are well established in the Indian market and Cost of switching to substitute is very high

·         Still people exists the huge tendency to give the home to the children.

·         The other factor which reduces the threat of substitute is the Indian social requirement where owning a house is a sense of pride rather then living in a rented house. And there is no sign of any change in that perception at all.

·         Overall threat of a substitute is moderate high in the industry with initial stage of   market fuelling the industry towards one of the economic accelerator.

Threat of new entrant

·         The industry doesn’t pose much treat from new entrants; as far as the entry requirement is concerned it is not problem factor for somebody to enter in the market but the market forces like very stiff competition and very high level of market penetration by the current players has left no place or very low place for any new participant to come in.

·         The threat of new players can also be faced from the various players which are living in the dormant phase and are not so active in the market for example almost all the banks have their set up for housing loans but only some bank provide RML. Still only few housing company provide reverse mortgage loan.

·         The only big matter of concern is aggressive nature of multinational banks such as Citibank etc which has recently joined the industry and there are still various international banks which are evaluating the option of entering the Indian market And foreign bank having expertise in the RML and they might pose a very big threat to the industry as they have access to low cost funds and they deep pockets to continue to hold in the market for longer run.

·         So in all the industry is pretty secured from the new entrant threat and again the market growth will give a lot of time to all players to settle down as demand is high the players can very well move in the market.

Competition in the industry

·         Rivalry among the player is medium. The number of player is very few in reverse mortgage sector. Only few banks and housing finance company provide RML.

·         Demand for the reverse mortgage loan is very less.

·         As a high chance of entry of new player in the market the rivalry may increase in future.

·         Foreign banks with their low cost funds have the given market a whole new dimension, where in players are providing loans to customers at sub PLR levels. And the interest rates are at their minimum level and there is expectation of its going up.

Findings:

·         46% retired people depends on transfer from children during their post retirement time.

·         72% of retired people are either not satisfied or partly satisfied with their current income.

·         Though 68% of total makes some investment for retirement, most of them are not satisfied with their current income because of inadequate investment for retirement planning.

·         75% people do not makes retirement planning because of inadequate income.

·         Post office monthly scheme and senior citizen saving scheme are most preferred retirement planning tools.

·         Penetration of reverse mortgage loan is very low.

·         Only 26% people know about reverse mortgage loan

·         In case of 74% retired people, ownership of home is in own name or name of spouse.

·         68% retired people considered the concept of reverse mortgage loan as a very good or good.

·         32% actually agreed to go for reverse mortgage loan.

·         Limited annuity period (30%), desire to bequest home (17%) and high interest rate (16%) are the three major factors acting as a hurdle for reverse mortgage loan.

·         79% favors annuity for the lifetime.

·         74% consider interest rate as a important factors in decision to go for reverse mortgage loan.

·         68% retire people considers reverse mortgage loan as a risk free.

·         Monthly equated installment is the most preferred form.

·         Health care (34%) and family care (29%) are the most preferred use of reverse mortgage loan.

·         76% prefers to repay to repay reverse mortgage loan by sell of house by lender.

Suggestions

(A)Suggestions to the provider of the reverse mortgage loan

·         Increase awareness about the reverse mortgage loan by heavy advertisement through newspaper and Television advertisement as a medium

·         Reduce the interest rate by taking into consideration the profit margin. Ideal interest rate should be between 7-8%.

·         Spend some amount on sales promotion and marketing to increase the level of penetration of reverse mortgage loan.

(B) Suggestions to the regulator

·         Replace the period of annuity payment of 15 years with lifetime annuity payment.

·         Decrease the current risk rate of 150% on reverse mortgage loan so lender can reduce interest rates.

·         Appoint qualified counselors to educate customers.

·         Make clear provision about the revaluation of property addressing following issue

§  Ideal period of revaluation

§  Clarity about Valuer ( by whom)

·         Reduce upfront fee either to 1/3^rd or 1/4^th of First installment as per feasibility of reverse mortgage loan provider.

·         Insurance of credit default such as in the US should be made mandatory. A small part of the loan amount may be parked in unit linked insurance schemes so that the premium paid will keep appreciating and at the same time in the eventuality of death, the sum assured will likely make any good deficit.             

·         Instead of merely capping loan amount as a percentage of value, total outstanding including interest should be capped if the borrowers survive the term of loan. The borrower must undertake to pay the difference from his other sources.  

·         A pool account may be operated by NHB or any agency promoted for this purpose which will meet short recoveries either due to outstanding overtaking the value of property or, due to value of property falling. Counseling to be mandatory could be free as in the US and should be done by advisors carrying NHB certificates.

Conclusion

With the changing social milieu in India and the collapse of the joint family system, introduction of reverse mortgage products could be a worthwhile experiment. Instead of being dependent on their children for monetary support, this would be a good option for the elderly to continue with a graceful lifestyle. Banks and housing finance companies have already started launching this product and in the near future, they would come out with the reverse mortgage products based on American experience with features like, fixed or floating interest, shared appreciation, interest earning credit-line and mortgage insurance.

After the detailed research it has been fond that retirement planning done by most of retired people are not adequate to satisfy their current needs and majority of them are dependent on transfer from their children as their current source of income. So there is huge growth potential for reverse mortgage loan.

But on other hand the level of awareness about reverse mortgage loan is very low. The current market penetration of reverse mortgage loan is also very low with senior citizens saving schemes and post office monthly deposit schemes being the most preferred retirement planning tool. However the future prospects for reverse mortgage loan seems very good because majority of respondents considers the concept as a very good and wants to go for reverse mortgage loan in future.

When it comes to operational issues the limited annuity period, desire to bequest home and high interest rate are some of the major factors acting as a hurdle for reverse mortgage loan. Monthly installments is the most preferred form of receiving reverse mortgage loan and health care & help to family members are the most preferred usages.

References:

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3. “RBI to Issue Norms for Reverse Mortgage” Business Standard, April 22,2008  Mumbai

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