Reverse Mortgages. An investment research policy for using reverse mortgages

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1 Reverse Mortgages An investment research policy for using reverse mortgages

2 Table of contents Table of contents... 2 At a glance... 3 Introduction... 4 What is a reverse mortgage?... 4 Advantages and disadvantages... 4 Advice... 6 What type of advice can I provide?... 6 Terminating a reverse mortgage... 7 Debt advice for financial advisers... 7 Consider the alternative strategies... 7 Providing debt advice in relation to reverse mortgages... 8 Credit assistance... 9 How do I satisfy my responsible lending obligations?... 9 Step 2: Conduct reasonable inquiries about the consumer... 9 Step 4: Take reasonable steps to verify the client s financial circumstances... 9 Step 5: Based on these inquiries, make a preliminary assessment about whether the proposed reverse mortgage is not unsuitable for the client Equity projections and information statements Approved reverse mortgages Additional information Additional information Adviser Support Penalties and remedies, internal and external Policy Review Version 2.0 May 2015 Investment Research Policy Reverse Mortgages Page 2

3 At a glance For asset-rich income-poor clients, a reverse mortgage may be the only option available to achieve their financial objectives. A client s home, for example, may be their sole significant asset and they may be unable, or unwilling, to downsize in order to release equity in order to fund their retirement. However, the cost of a reverse mortgage to the client, or their estate, can be far greater than the amount that they borrow, as interest and fees are capitalised over the term of the loan. Due to interest capitalisation and other unique aspects of reverse mortgages, the amendments to the National Consumer Credit Protection Act (NCCPA), effective 1 March and 1 June 2013, have imposed specific requirements on advice relating to these products. The purpose of this policy is to provide practical guidance on satisfying those requirements. The requirements in this policy are in addition to those outlined in: The Advice Practice Policy - Debt advice for Financial Advisers The Licensee Policy - Credit Assistance This policy affects the Advice formulation step of the advice process: Version 2.0 May 2015 Investment Research Policy Reverse Mortgages Page 3

4 Introduction What is a reverse mortgage? A reverse mortgage, also known as an equity release plan, is a loan that enables individuals to access the equity in their home without selling it. A reverse mortgage is defined under the NCCPA as an arrangement which involves a loan contract (other than a bridging finance contract) and a mortgage over a house or land which is used to secure the borrowers obligations under the contract and either: the arrangement is one which ASIC has declared to be a reverse mortgage; or the amount the consumer owes under the credit contract or mortgage may exceed the credit limit without the consumer being obliged to reduce the amount owing to below the credit limit amount. Note: the amount the consumer owes may exceed the amount borrowed due to interest and other fees being paid. Note: If the reverse mortgage was obtained before 18 September 2012; the contract may allow the amount owing to exceed the property value. Arrangements that do not meet these criteria must not be described as a reverse mortgage. The use of the term "reverse mortgage" (or any other term with a similar meaning) is restricted unless the arrangements are of the specific type described above. The loan proceeds may be taken as a lump sum, fixed periodic payments or a combination of the two. Whilst the property is still security for the loan, repayments are not required throughout the term of the loan. Interest and fees will be charged to the reverse mortgage account and interest is charged on the interest and fees. That is, the interest is capitalised. Generally, the total amount owing (comprising the borrowed amount, interest, fees and charges) becomes due if the borrower/s: sells their home moves from the home is in default of the loan contract, or dies. Where there are joint owners, this is usually the last of the owners to die. However, there may be other default events under the terms of the particular reverse mortgage. Remember that only a Credit Representative can recommend a client commence, retain or increase a reverse mortgage, as this is classified as credit assistance. Advantages and disadvantages Every reverse mortgage product is unique; however, the table below lists advantages and disadvantages that are often applicable to this product type: Advantages Offers asset-rich but income-poor homeowners the option to borrow against the equity they have built up in their home to improve their standard of living in retirement. Disadvantages The fees and interest compound over the term of the loan. The interest rates are often higher than average Version 2.0 May 2015 Investment Research Policy Reverse Mortgages Page 4

5 No regular repayments are required. Depending on the contract, the client may be able to receive the loan as an income stream, lump sum, or a combination of both. Income from the reverse mortgage is not taxable on receipt. Fixed or variable interest rates are often available. home loan rates. The loan may affect the client s social security entitlements e.g. depending on how the funds are used, it may be caught under the Centrelink income or assets tests. Borrowing against the client s home equity may diminish their ability to secure a place in an aged care facility e.g. they may need to sell their home in order to pay for the bond or accommodation charge. If the client is the sole owner of the property and someone lives with them, that person may not be able to remain living in the house when the client dies (depending on the circumstances). Decreasing property prices may exacerbate the erosion of the client s home equity. Estate planning considerations: the client s family may not be prepared for money being owed on the home. Where the home is being sold due to the client s death, the contract may entitle the lender to deduct fees from the sale proceeds if the sale occurs before a prescribed date. It is important that you understand the specific advantages and disadvantages relevant to the particular reverse mortgage product that you are recommending (if you are a Credit Representative), or the overall strategy of recommending a reverse mortgage (if you are an adviser). Version 2.0 May 2015 Investment Research Policy Reverse Mortgages Page 5

6 Advice What type of advice can I provide? Reverse mortgages can have a significant impact on other areas of the client s financial circumstances. Irrespective of whether you are providing credit assistance or debt advice, ASIC requires you to explain to the client the effect of a reverse mortgage on the relevant advice areas before the advice is provided. Relevant advice areas are dependent on the client s circumstances, but could include: Estate planning Social security Aged care Budgeting The following table provides a high-level summary of the type of advice you can provide in relation to reverse mortgages: Financial adviser You are required to provide the client with advice regarding their estate planning and future aged care needs. These areas cannot be excluded from the scope of the advice. If you are not authorised to provide advice in these areas, your advice document must detail a referral to a suitably authorised financial adviser. You need to refer the client to a solicitor for advice on how the reverse mortgage will affect their estate planning arrangements. Credit representative You are required to provide the client with advice regarding their estate planning and future aged care needs. These areas cannot be excluded from the scope of the advice. You are required to explain to the client that a reverse mortgage can have a detrimental impact on their other advice areas. You must also impress on them the importance of seeking advice in these areas from a financial adviser before they implement your product recommendation. Your disclosure document should detail this referral and an explanation of its importance. You need to refer the client to a solicitor for advice on how the reverse mortgage will affect their estate planning arrangements (this may also be a requirement imposed by the credit provider). Version 2.0 May 2015 Investment Research Policy Reverse Mortgages Page 6

7 Terminating a reverse mortgage Reverse mortgages obtained on or after 18 September 2012 Generally, the NCCPA limits the client s liability to the adjusted market value of the property that is used as security under the reverse mortgage. The NCCPA prescribes a method for calculating the adjusted market value: where the property has not been sold the adjusted market value is the property s market value, as determined by an accredited valuer within 3 months before the lender receives an amount from the debtor to discharge the reverse mortgage, or if the property has been sold the adjusted market value is the property s sale price. The effect of terminating a reverse mortgage arrangement may impact a client s social security entitlements and aged care situation. Reverse mortgages obtained before 18 September 2012 A client s liability is calculated in accordance with the terms agreed to in the credit contract when the reverse mortgage was commenced. Debt advice for financial advisers Debt advice (i.e. strategic credit advice) may only be provided if you are authorised as a Financial Advisers by an AFSL. At a high level, debt advice is credit advice that is not credit assistance i.e., you do not recommend or suggest a particular credit product or lender. Refer to the Licensee Policy - Credit Assistance (if you are a Credit Representative) or the Advice Practice Policy - Debt advice for Financial Advisers (if you are a Financial Adviser). Consider the alternative strategies Reverse mortgages, are often an option of last resort, and strategies that could achieve the client s objectives must be considered before you recommend a reverse mortgage be considered. These may include: Selling other assets Downsizing property in order to release equity Selling the home to family members and renting it back from them Reducing living expenses Applying for a social security payment Returning to the workforce Loans or gifts from family members Version 2.0 May 2015 Investment Research Policy Reverse Mortgages Page 7

8 Providing debt advice in relation to reverse mortgages In most cases, you will refer the client to a Credit representative, unless you are a credit representative, for credit assistance (i.e. a specific product recommendation) and a determination about whether a particular product is not unsuitable. Consider a reverse mortgage You can recommend the client considers a reverse mortgage. This involves an explanation about: How a typical reverse mortgage operates. The features and benefits offered generally in the market. For example, you could advise the client that some reverse mortgages offer the ability to receive the borrowing as an income stream or a lump sum. Templates are available in DRAFT Online which can assist you to provide this advice. Increase or decrease the income received Interest rates Paying off the reverse mortgage Some reverse mortgage products offer the ability to receive the borrowings as an income stream. The amount the client is authorised to borrow has already been pre-agreed with the Lender and client. You can recommend that the client adjust the amount of income (i.e. period payments) that they receive. If the client has an existing reverse mortgage, and you believe that the interest rate that they are currently subject to is relatively high, you can advise them that you think that they could consider other products in the market. You can explain the benefit of having a fixed interest rate. You can recommend that the client use a lump sum to pay off a portion, or all, of an existing reverse mortgage. For example, you can recommend that the client use an inheritance that they received to reduce or pay off the reverse mortgage. Please refer to the Debt advice for financial advisers QAF for more details on what you can and cannot do with regards to this strategy. Version 2.0 May 2015 Investment Research Policy Reverse Mortgages Page 8

9 Credit assistance Credit assistance may only be provided if you are authorised as a credit representative an Australian Credit License (ACL). At a high level, credit assistance means you recommend particular credit products or lenders. Refer to the Licensee Policy - Credit Assistance (if you are a Credit Representative) or the Advice Practice Policy - Debt advice for Financial Advisers (if you are a Financial Adviser). How do I satisfy my responsible lending obligations? The NCCPA imposes obligations that are in addition to those explained in the Licensee Policy - Credit Assistance. These additional obligations apply to the following steps of the credit assistance process: Step Step 2 Step 4 Step 5 Action required Conduct reasonable inquiries about the consumer. Take reasonable steps to verify the client s financial circumstances. Based on these inquiries, make a preliminary assessment about whether the proposed reverse mortgage is not unsuitable for the client. Step 2: Conduct reasonable inquiries about the consumer Generally, the scale of your inquiries is determined by the client circumstances and the complexity of the credit product being recommended; however, ASIC has stated that the unusual aspects of reverse mortgages and their risks mean that the level of inquiries required is always high. The Debt Fact Find is available to streamline the data collection process; although, you may be required to collect further information to make a preliminary determination that the proposed reverse mortgage is not unsuitable. You must also make reasonable inquiries about the client s future needs. This includes: the possible need for aged care accommodation expenses, and whether the client intends to leave equity in their home or land to their estate. Collecting information in order to answer the questionnaire in the Step 4: Based on these inquiries, make a preliminary assessment about whether the proposed reverse mortgage is not unsuitable for the client section will also assist you with completing this step. Step 4: Take reasonable steps to verify the client s financial circumstances There aren t a prescribed number of documents that need to be collected to meet this step. Take reasonable steps to verify information is dictated by the client s objectives and financial circumstances. However, if the information collected is important in determining whether the reverse mortgage is not unsuitable, you are required to take reasonable steps to verify that information. This includes verifying, where possible, the information collected in answering the questions in the following step. A non-exhaustive list of the types of documentation that need to be collected is provided here: Income related statements if the client is employed on a part-time basis (e.g. PAYG statements) Tax returns Centrelink statements Investment statements (e.g. income reports) Superannuation statements (e.g. annual statements) Property valuations Bank statements Version 2.0 May 2015 Investment Research Policy Reverse Mortgages Page 9

10 Cheque butts would generally not be suitable. Copies of these documents must be kept in the client file. Step 5: Based on these inquiries, make a preliminary assessment about whether the proposed reverse mortgage is not unsuitable for the client Reverse mortgages may be, not unsuitable, if the client needs one or more of the following: a small amount to supplement their income to cover expenses and they can afford to do this for many years a lump sum for home maintenance or renovations so they can stay in their home money for a critical need e.g. medical treatment a loan to secure aged care accommodation until they sell their home. Even though reverse mortgages might be suitable to a client in some circumstances, he or she must be aware that it is a long-term commitment and has significant impact on their assets. A reverse mortgage will be unsuitable where you answer yes to one or more of the following questions: Is there another source of funding available? The disadvantages associated with reverse mortgages (e.g. the capitalisation of interest) mean that a reverse mortgage will generally only be appropriate where there is no other source of funding available. For example: o o A reverse mortgage should not be used to top up the client s pension payments. Instead, the pension should be exhausted first, before relying on the reverse mortgage. If the client has money (or other assets) set aside for a specific goal, you should discuss with them the appropriateness of using that money to meet their immediate needs, and draw down on the reverse mortgage when it s time to achieve their goal. The obvious advantage of this is that it avoids interest capitalising in the interim. Is the borrowing going to be used for a frivolous purpose or luxury expense? The effect of interest capitalisation can be extreme. A reverse mortgage will be unsuitable where the purpose of the borrowing is frivolous or is going to be used for a luxury expense. o o You are required to assist the client to balance the longterm consequences (e.g. interest capitalisation) against their short-term objectives. Exercise your professional judgement and consider the client s relevant circumstances e.g. the purpose of the loan, the amount being borrowed, the client s life expectancy, etc. Consider whether the objective justifies the interest capitalisation and other risks / disadvantages associated with reverse mortgages. Is the client employed on a fulltime basis? If the client is employed on a full-time basis, a reverse mortgage recommendation will be deemed to be unsuitable. In these circumstances, a traditional loan facility would be a more appropriate option. Where you are providing advice to a couple and only one member of the couple is retired on a full or part-time basis, again you should investigate whether a traditional loan facility is a more appropriate option. A common sense approach should be taken where the client is selfemployed or a contractor. Version 2.0 May 2015 Investment Research Policy Reverse Mortgages Page 10

11 Will a guarantor be attached? A reverse mortgage will be unsuitable where a guarantor is attached. Is the borrowing going to be used for a purpose other than a personal, household or domestic purpose? If the loan amount is going to be used for a purpose other than a personal, household or domestic purpose, it will be unsuitable. For example, a reverse mortgage will be unsuitable where the client intends to use the proceeds to invest in the property or share market. Is an asset other than the person s principal residence going to be used as security? Lenders have their own criteria for assessing the security that they are willing to accept. Regardless, a reverse mortgage will be presumed to be unsuitable where an asset other than the principal residence is used as security. Is the loan-to-value ratio above the legislative thresholds? A reverse mortgage will be deemed to be unsuitable where the loanto-value ratio exceeds the thresholds prescribed under the credit regulations. These maximum thresholds differ, depending on the age of the youngest borrower: Age of the youngest borrower 55 or younger 15% Older than 55 Maximum loan-to-value ratio 15% + 1% (for each year that the youngest borrower is older than 55) For example, if the youngest borrower is 60 years old, a loan-to-value ratio that exceeds 20% is deemed to be unsuitable. Is the borrower a different individual to the person listed on the title of the principal residence? The borrower must be the same individual as the person listed on the title. If multiple individuals are listed on the title, all parties must agree to the reverse mortgage. Agreement may be provided directly or via someone who has been granted with a power of attorney that covers the transaction. The borrower, and consequently the title holder, must be a natural person e.g. the borrower and title holder cannot be a trust or company. Version 2.0 May 2015 Investment Research Policy Reverse Mortgages Page 11

12 Does the reverse mortgage contract fail to provide a no negative equity guarantee? A no negative equity guarantee protects the borrower, and their beneficiaries, by ensuring that the loan amount cannot exceed the value of the property. On 18 September 2012, the Government introduced a statutory negative equity protection on all new reverse mortgage contracts. If you are recommending that the client maintain an existing reverse mortgage or increase the amount of the borrowing, and the reverse mortgage was obtained before 18 September 2012, you must consider whether their existing reverse mortgage is not unsuitable based on their future needs e.g. estate planning objectives. All the reverse mortgages listed on the Aggregator s Approved Product List offer a no negative equity guarantee. Does the reverse mortgage contract fail to offer a tenancy protection provision? A tenancy protection provision determines whether someone other than the borrower can occupy the home. If the terms of the reverse mortgage prevent someone other than the borrower from occupying the home, the borrower must be notified in writing before the preliminary assessment of not unsuitability is provided. Answering no to all of these questions does not necessarily mean that a reverse mortgage is not unsuitable. You need to refer to the Licensee Policy - Credit Assistance for guidance on determining when a credit product is not unsuitable. Equity projections and information statements Before making a preliminary assessment of unsuitability, the NCCPA requires you to provide the client with the following: Equity projections: Equity projections are designed to help the client understand the impact a reverse mortgage may have on the equity in their home. In particular: o o how much their debt will increase over time, and how changes in interest rates and house prices could affect the equity in their home. The equity projections must be produced using the calculator on ASIC s Money Smart website. This is because only a calculator that has been approved by ASIC can be used. You should also refer to the information sheet on the website which sets out how credit licensees should use the reverse mortgage calculator. It covers: 1. how ASIC expects you to use the calculator to meet your responsible lending obligations for reverse mortgages, and 2. Information to help you use the calculator effectively. The projections can be given to the client in person, by mail, by or by another written or electronic communication agreed to by the client. A copy of the projections must be kept in the client file. The SoA must make also make reference to the fact that you previously provided the client with equity projections. Version 2.0 May 2015 Investment Research Policy Reverse Mortgages Page 12

13 Information statement: The Information statement explains the benefits and risks commonly associated with reverse mortgages. It must be provided to the client at the same time as the equity projections. The Reverse Mortgage Information Statement can be accessed in DRAFT Online and the Tools section on Portal. In addition to providing an information statement to the client before you make a preliminary assessment, you must also provide an Information statement to any consumer that requests it. If you advertise that you can provide credit assistance in relation to reverse mortgages, you must make the Information statement available on your website. The SoA must make reference to the fact that you previously provided the client with the information sheet. Approved reverse mortgages A list of the reverse mortgages that are on the Licensee s approved product can be accessed via the respective aggregators: Connective. Additional information Referral Where you provide strategic debt advice that requires a credit product to implement, and you are not a credit representative, your advice document must include a disclaimer warning the client that they should not proceed with your advice without first receiving a product recommendation from a credit representative. Version 2.0 May 2015 Investment Research Policy Reverse Mortgages Page 13

14 Additional information Adviser Support Query type Website Location Person Responsible Contact details Advice practice policy and advice standards Compliance Standards Compliance Manager Investment research policy and advice standards Compliance Standards Investment Committee Chairman Compliance queries Compliance Manager Investment queries Investment Committee Chairman Technology queries Jigsaw Advice Technology , option 1 Non-Approved Product Request form Products and Research Investment Committee Chairman Checklists and forms Advice Practice Support Tools Compliance Manager Penalties and remedies, internal and external Licensee remedies and penalties As with all financial services advice requirements, penalties and remedies exist both externally through the regulator, and internally at a Licensee level. You should always contact your Licensee support team if you have any questions in relation to complying with your Licensee requirements and follow the self-reporting process if you think that you have breached the requirements. Early detection of a breach or issue can avert a more systemic or far reaching problem and is conducive to a simpler remedy than a more serious implication. Policy Review This policy will be reviewed by the Futuro Audit and Compliance Committee at least annually or as changing circumstances warrant. Version 2.0 May 2015 Investment Research Policy Reverse Mortgages Page 14