A new, highly innovative mortgage product could spell the effective end of reverse mortgages and similar products globally within the next two years, says Futureproof Financial CEO John Innes.
The new mortgage product, trademarked the Equity Preservation Mortgage, has been designed by a team of banking, insurance and technical product specialists at Futureproof, to put an end to what its team sees as the “inherently defective” design of existing reverse mortgage products.
Futureproof said the resulting product would enable retirees – as well those with equity at any age – to use the equity they have built within their properties to generate an income stream for a variety of purposes. They could do so without depleting their equity, in a revolution Innes (pictured above) said “changes everything” for the market.
“It’s the old story with existing products out there, particularly in retirement funding – you have providers trying to tweak around the edges of existing sets of products and it’s not going to work when the products are inherently defective in design – you have to solve the design defect,” Innes said.
The new mortgage product was designed to pay interest rather than accrue it and compound it and was also fully insured. Innes said this would “completely revolutionise retirement funding”, while brokers would benefit from a market opening in pre-retirement, given there were no age restrictions.
Tackling multiple retirement incomes problems
Futureproof recently announced a tie up with Hong Kong and London-based venture capital firm IMS Digital Ventures, which will see IMS become a major shareholder and player in helping scale the new mortgage product design globally, with a view to launching it in mortgage markets in mid-2024.
Founder and CEO of IMS, Anastasios Papadopoulos, who will sit on Futureproof’s board, said the deal aligned with its strategy to back world-class entrepreneurs with deep market expertise who were looking to solve large-scale global problems – in this case the ‘global retirement funding gap’.
Innes said in western countries such as Australia, the US and UK, many retirees were asset rich but cash poor, leaving them underfunded for retirement. He said in Australia about 70% of retirees were home owners, and the average house price for these seniors on average was about $1.1 million.
But these customers faced a retirement funding shortfall, with average retirements lasting 20 years, while being funded only for 10. “That also ignores when dear old dad has a stroke, or mum has dementia, and they need to go into high or low care with an accommodation bond,” he said.
With accommodation bonds in major cities reaching above $1 million in some cases – a fee often required twice as two parents were unlikely to go into the same room at the same time – Innes said they people could be in “real trouble” if they were underfunded or had less equity due to a reverse mortgage.
“These customers are not poor, but no bank or insurance company has a product for them – it is ridiculous. How are they looking after these ageing customers? These are old-school people, loyal, but they are not being helped with a modest income product – it doesn’t make any sense.”
Innes said there was the parallel problem of inter-generational unfairness, where younger generations couldn’t get into the property market, and unless there was complete wealth transfer between generations, they were unable fund their own retirement, causing a downward spiral or funding deficit.
Problems in the reverse mortgage product universe
Reverse mortgages have been questioned for their in-built capacity to deplete borrower equity, and Innes said with compounding interest every month, “your debt doubles every 10 years give or take depending on interest rates and you are in negative equity in 20 years depending on house prices”.
An ASIC review of the market conducted in 2018 found while in many cases they do allow older Australians to achieve their immediate financial goals, longer term challenges do exist, with all 30 borrowers examined paying “little to no attention to the longer-term implications of their loan”.
“Reverse mortgages were invented 35 years ago in the UK and they have never changed aside from some tweaking around the edges,” Innes said. “They are not fit for purpose and are inherently defective, and that is also true of shared depreciation and reverse equity mortgages – products in that category.”
“As a banking product, reverse mortgages are problematic because they are 100% risk weighted – they are Tier 1 capital intensive to write, which is why most lenders don’t want to do them.”
He said major banks Westpac and the Commonwealth Bank had pulled out of the market they inherited from their St George Bank and Bankwest mergers respectively because they “didn’t want to be in it”, and currently no major banks are offering reverse mortgage products.
“They are not fit for purpose for lenders. One of the problems is that they can’t get them off their balance sheets – because these loans can’t be securitised. So, they are struck with them on their balance sheet and that is a big problem for a lender,” Innes said.
The equity preservation product in contrast 50% risk weighted, making it twice as efficient for lenders to write, and meets the primary borrower need of not depleting their equity. Innes said this could completely disrupt the $20bn a year global reverse mortgage market.
“The reason it will be disrupted is because it is advice-driven, and the UK and Australia have strong advice regulation and there are state-by state consumer duties in the US. If a financial planner puts someone into a reverse mortgage, they will get sued for loss of inheritance or lost equity.
“All you need is one class action from 30 or 40 disgruntled borrowers. No financial adviser will be willing to stick their neck out and pump their clients into a reverse mortgage within one to two years – they are facing their Kodak moment and they just don’t know it yet,” Innes said.
“This will be a great outcome for borrowers and a great outcome for lenders. It is a unique product and will spell the end of what I think is a dreadful industry the reverse mortgage industry.”
Preserving equity while providing retirement income
Innes said the Equity Preservation Mortgage product was a mortgage-based financial instrument that aimed to overcome the defects of existing equity release mortgages, including reverse mortgages, shared appreciation mortgages, shared equity mortgages and retirement interest-only mortgages.
To be licensed only to regulated financial institutions and delivered via a SaaS product platform to the industry, he said it monetised home equity into a tax-free annuity income or fund embedded insurance products, with no depletion of home equity over terms from 15 to 30 years.
Innes said the loan structure meant banks or issuers were deployed a portion of a property’s equity on a regulated platform of assets in a similar way to annuity products, with the earnings of those assets paying down the cost of a loan taken out on another portion, as well as insuring it against risk.
Because the loan was fully insured, credit risk was removed for the lender through mortgage insurance and the borrower had no exposure to investment risk. Innes said on a $1m house, this meant borrowers could generate a $36,000 tax free annuity that they could not access anywhere else.
While he said the product was likely to be advice led, and therefore distributed through financial planners, there could be significant potential for those in the pre-retiree market of people in their 40s or 50s, who could also benefit at any age from taking out the new products.
The IMS deal gives Futureproof access to top-tier software engineers in Silicon Valley, Hong Kong and Singapore who will be fast-tracking the product launch over the next year, with a planned release in mid-2024 in the USA and then in Asia, United Kingdom and Australia.
What do you think about the future of reverse mortgages in Australia and around the world? Share your thoughts or stories on this topic in the comments section below.
