Reverse Mortgages
Reverse Mortgages Explained: How Can You Access Equity in Your Home During Retirement?
Reverse Mortgages are becoming more popular, but what are they and how do they work?
For many Australians, their home is their most valuable asset. However, having significant wealth tied up in property doesn't necessarily mean having enough money available for everyday living expenses, renovations, medical costs or enjoying retirement.
A reverse mortgage is one way eligible older homeowners may be able to access some of that wealth without needing to sell their home.
But how does it work, when does the money need to be repaid, and what are the potential risks?
Let's explore the concept with a practical example.
What Is a Reverse Mortgage?
A reverse mortgage is a type of loan that allows eligible homeowners, generally aged 60 and over, to borrow money using the equity in their property as security.
Unlike a traditional home loan, there are generally no compulsory regular principal and interest repayments while the homeowner continues living in the property and meets the loan conditions.
Instead, interest is added to the outstanding loan balance, which increases over time.
The homeowner continues to own their property, but the amount of equity remaining generally reduces as the loan grows, unless increases in the property's value offset this.
Depending on the lender and product, funds may be available as:
A lump sum payment
Regular payments to supplement retirement income
A line of credit
A combination of these options
A Practical Example: A $1 Million Home With No Mortgage
Imagine a 70-year-old retiree who:
Owns their home, currently valued at $1,000,000
Has completely paid off their mortgage
Receives retirement income but would like additional funds
Wants to remain living in their family home
They decide to explore accessing $150,000 through a reverse mortgage.
If eligible and approved, they could receive $150,000 secured against their home.
They would continue to own and live in the property and generally wouldn't be required to make regular loan repayments while meeting the conditions of the loan.
However, the $150,000 isn't free money. Interest is charged, and the outstanding debt increases over time.
How Much Could the Loan Grow?
Let's assume:
Initial reverse mortgage: $150,000
Illustrative interest rate: 7.5% per annum
Interest compounded monthly
No repayments made
No additional borrowing or fees
Time elapsed Approximate loan balance
Initially $150,000
After 5 years $218,000
After 10 years $317,000
After 15 years $461,000
After 20 years $670,000
Why does the balance increase so much?
Because of compound interest.
Interest is charged not only on the original amount borrowed but also on the interest previously added to the loan.
Over longer periods, this can significantly increase the outstanding debt.
These calculations are hypothetical and assume the interest rate remains unchanged. Actual outcomes will depend on the lender, interest rates, fees, repayments and other loan conditions.
When Does a Reverse Mortgage Need to Be Repaid?
This is one of the most important questions to understand.
Generally, a reverse mortgage becomes repayable when:
1. The homeowner sells the property
If the homeowner decides to sell, the outstanding reverse mortgage is repaid from the sale proceeds.
2. The homeowner permanently moves out
This may include moving into residential aged care or relocating permanently. The precise conditions depend on the loan agreement.
3. The last surviving borrower passes away
The outstanding loan is generally repaid through the deceased estate, often following the sale of the property.
4. The borrower chooses to repay the loan earlier
Borrowers may generally make voluntary repayments or repay the loan in full before it becomes due, subject to the terms and any applicable fees.
What Happens When the Property Is Sold?
Returning to our example, imagine the homeowner sells their property after 10 years.
If the property is still worth $1,000,000:
Property sale price $1,000,000
Reverse mortgage outstanding
$317,000 Remaining
equity $683,000
The homeowner would receive approximately $683,000 after repaying the loan, before selling costs and other applicable expenses.
If the property has increased in value, more equity may remain. If its value has decreased, less equity may remain.
What Are the Potential Benefits?
A reverse mortgage may offer several benefits for eligible homeowners:
Remain in the family home
Homeowners may be able to access funds without needing to sell or relocate.
Access money without compulsory regular repayments
This may assist retirees whose income is limited but who have substantial property equity.
Flexibility in how funds are accessed
Depending on the product, funds may be accessed through a lump sum, regular payments or a line of credit.
Freedom to use funds for different purposes
Funds may be used for living expenses, home improvements, healthcare or other purposes, subject to the lender's conditions. However, these potential benefits need to be weighed against the long-term financial consequences.
What Are the Risks of a Reverse Mortgage?
Compound Interest
Because interest is added to the loan rather than necessarily being repaid each month, the outstanding debt can grow substantially over time.
Reduced Home Equity
The growing loan balance reduces the equity available to the homeowner. This can also reduce the amount ultimately passed on to beneficiaries.
Less Financial Flexibility Later
A homeowner may need to sell, downsize or move into aged care later in retirement. A large outstanding reverse mortgage could leave less money available to fund those needs.
Interest Rate Changes
Reverse mortgage interest rates may be variable and can be higher than traditional home loan rates. An increase in interest rates could cause the outstanding balance to grow more quickly.
Centrelink and Age Pension Considerations
Borrowing against a property is not necessarily treated as assessable income. However, how the borrowed funds are held or used may affect income and assets testing, potentially changing Age Pension entitlements.
Ongoing Loan Conditions
Borrowers generally need to maintain their property, meet insurance and rates obligations, and comply with the conditions of their loan agreement.
Failing to meet certain conditions could have financial consequences, including potential early repayment requirements.
Can You End Up Owing More Than Your Home Is Worth?
An important Australian consumer protection is the negative equity protection applying to reverse mortgages entered into from 18 September 2012.
This generally means that when the loan is repaid, the borrower cannot be required to repay more than the market value of the secured property.
For example, if the outstanding reverse mortgage has grown to $900,000 but the property is only worth $800,000, the lender generally cannot recover the additional $100,000 from the borrower under this protection.
However, negative equity protection does not prevent the homeowner from losing most or all of their remaining property equity.
How Much Can You Borrow?
The amount available generally depends on:
The age of the homeowner, or younger borrower where applicable
The value and suitability of the property
The lender's borrowing limits and eligibility criteria
Any existing mortgage or other secured debt
As a general guide, a 70-year-old homeowner may be able to access approximately 25–30% of their property's value.
For a $1 million property, this could represent approximately $250,000–$300,000.
This is an indicative guide, not a guaranteed borrowing amount. Individual lender criteria and limits apply.
Do You Have to Borrow Everything at Once?
Not necessarily.
Some reverse mortgage products allow borrowers to access funds progressively rather than taking one large lump sum.
For example, a retiree who only requires an additional $1,000 per month may wish to explore a product that allows regular payments.
Because interest generally accrues only on funds drawn, progressive access may result in a smaller loan balance over time than taking a large lump sum upfront.
Availability and conditions vary between lenders.
Are There Alternatives to a Reverse Mortgage?
Before considering a reverse mortgage, it's worth understanding the alternatives.
Downsizing
Selling a larger property and purchasing a smaller, less expensive home may release equity without creating a new loan.
However, selling costs, purchasing costs, lifestyle considerations and potential Centrelink implications should be considered.
The Government's Home Equity Access Scheme
Eligible older Australians may be able to access a government-provided loan secured against Australian real estate to supplement retirement income.
This operates differently from commercial reverse mortgages, with specific eligibility, payment and borrowing restrictions.
Other Financial Options
Depending on individual circumstances, alternatives may include reviewing retirement income, accessing available savings, considering government entitlements or exploring other suitable financial arrangements.
Questions Worth Asking Before Making a Decision
Before entering into a reverse mortgage, consider:
How much money do I actually need?
Do I need a lump sum or smaller payments over time?
How much could the loan grow over 5, 10 or 20 years?
What happens if interest rates increase?
How much equity would I like to preserve for future needs?
Could this affect my Age Pension or other entitlements?
What happens if I need to move into aged care?
What other options are available?
Understanding the answers can help homeowners make more informed decisions about their retirement and property.
Explore the Numbers Yourself
ASIC's Moneysmart reverse mortgage calculator allows you to explore how a reverse mortgage could affect your property equity over time.
You can adjust borrowing amounts, interest rates, property values and loan periods to compare different scenarios.
Understanding Your Options Is the First Step
Your home may represent a significant part of your financial position, particularly as you approach or enter retirement.
Whether you're considering accessing equity, downsizing, relocating or simply wanting to better understand your options, taking the time to explore the financial implications can help you make more informed decisions.
First Steps Financial — Education. Lending. Confidence.
Based in Morley, Western Australia, First Steps Financial provides financial education to help Australians better understand financial concepts and decisions.
Have questions about property, retirement or accessing equity?
Get in touch to start a conversation.
Disclaimer: This article provides general financial education and information only and does not constitute personal financial advice, a recommendation to obtain a reverse mortgage or an assessment of credit suitability. Figures are hypothetical and are not lender quotes. Loan eligibility, costs and terms vary. Consider independent financial, legal and taxation advice, including the potential impact on Centrelink entitlements and aged care, before making a decision. Credit assistance is subject to applicable licensing and authorisations.