Call it a "nest egg" without the "egg."
That's what a "home" is for about 30 million Americans over the age of 62, and for the average senior matching this description, a full 70% of the net worth involved is represented by the equity in one's nest. With the possible exception of dimples, it's probably the most illiquid asset an individual can have.
The only way to capitalize on a lifetime of thrift: sell the house.
But since 1981, when the Federal Home Loan Bank Board authorized savings and loan associations under its control to write reverse annuity mortgages on an experimental basis--to thundering disinterest--one timid approach after another to the problem of liquefying the equity in a senior citizen's home has faltered and either died or plodded along; the number of such mortgages written could be counted on the fingers of one hand.
The latest casualty: Giant Prudential-Bache Securities' brave plan, announced last September, to go nationwide with its IRMA (Individual Retirement Mortgage Account) program--victim of an ambitious distribution network that didn't work.
The good news: IRMA is alive and well, back in the hands of American Homestead Mortgage Corp., the mortgage banking firm that invented it in the first place (and has implemented hundreds of such reverse annuity mortgages), and the program should be available in California "no later than early next year."
Essentially, any reverse annuity mortgage presupposes a lender taking title (but not possession) of an older homeowner's property--either owned outright by the senior citizen or with a very big equity in it--and paying the homeowner X dollars a month (based on a formula of his age, the value of the home and the extent of his equity in it) for as long as he lives.
At the homeowner's death, the lender exercises the option of selling the home to satisfy the debt or holding it as a lien against the homeowner's estate.
The homeowner is never forced to move--no matter how wildly he or she exceeds the actuarial tables on probable life expectancy--and the heirs never owe the lender any additional money, no matter how grossly the monthly pay-outs to the homeowner may exceed the value of the home at the time of the occupant's death.
If the IRMA program, in particular, was so workable, why did giant Prudential-Bache Securities abandon it after just nine months?
'Out of Sync'
A disappointed John F. Settel, senior vice president of the New York-based firm, explains: "The distribution network and the market were simply out of sync. We were using our account executives to market IRMA but they, in turn, were dealing with a market sector that wasn't used to this kind of product. We thought that we would be dealing with people who could use it, would have homes of considerable value and would be reasonably affluent.
"We were wrong. The average home price turned out to be about $80,000 and the average age about 75--which was understandable--but their income was low. And so, with a great deal of unhappiness, we concluded that the program was much more applicable through local banks."
And it was through local banks that American Homestead Mortgage Corp. had been marketing IRMA for several months before Prudential-Bache came on the scene.
"We had our misgivings about their marketing approach," according to James Burke, president of the Mt. Laurel, N.J., firm, "but they have 3,000 brokers, nationwide, and so, even if they had written one IRMA apiece in a year's time, it would have been a considerable volume. And so we decided, 'What's to lose?' We entered into a nine-month exclusive contract with Prudential but, in that time, they referred only 30 mortgages to us. Their people tend to be young and aggressive and far more interested in selling pork bellies and silver futures than in dealing with old people.
'A Great Program'
"And so, we parted company sorrowfully, because it's a great program, and Jim Settel is a wonderful person who threw himself into it 100%--making speeches on it, appearing on TV talk shows, everything. But we split by mutual agreement--the single-provider approach simply didn't work."
As reconstructed, however, IRMA will go back to American Homestead's original approach--through large banks in each of the states it enters.
"We're just in New Jersey now because that's where we are," Burke said, "but by the third quarter of the year we'll be in what we call the 'Amtrak corridor,' except for New York. That's Pennsylvania, Massachusetts and Connecticut.
"The hold-up in New York is because of one of those typical New York situations: the thing that really made IRMA possible on a big scale was the Garn-St. Germain Act which was signed into law in 1982, and completely restructured the entire financial community. Included in it were a couple of pages that took away all of the problems in all 50 states that had faced the reverse mortgage with shared appreciation before--questions dealing with the due-on-sale clause, preemptive liens, and so forth."
But, being the political animal that it is, Burke said, Congress gave itself an "out" and for three years permitted any state to override Garn-St. Germain.
"And, predictably, New York was one of the three states that took the attitude that 'Congress can't tell us what to do,' and overrode it, and the reverse annuity mortgage got thrown out with the wash," Burke said. "Now that they've realized what they've done, though, the state is planning to undo it in September, and we expect to be in New York state in early 1986." The next three states targeted for IRMA: Florida (in the third quarter of this year), followed by California and Arizona.
"We want into California very badly," he continued , "because it's got the highest percentage of all states in the number of households headed by over-65s--more than 1.5 million, or 9.8% of the country's total. Also, of course, it's got, by far, the highest house values in the country, so it's the perfect place for us to be."
The announcement of IRMAs' availability in Florida is imminent, Burke said, as soon as the participating bank there ("and it's one of the really big ones, with more than 300 branches") gives its approval.
"The irony of the reverse annuity mortgage with shared appreciation is," Burke said, "that it's one of those societal things that no one can really oppose--from conservatives like Jack Kemp (R-N.Y.) to liberals like Claude Pepper (D-Fla.). Everyone, obviously, should have the right to liquefy the savings in his home but it's taken us a couple of hundred years to figure out how to do it."
And, as a social cause, Burke adds, "it's impossible to come into contact with the reverse annuity mortgage without becoming a convert--as Prudential's Jim Settel did. We know, for a fact, that we've prevented some suicides among these old people and time after time we've stepped into a situation just in time to stop a foreclosure. It gets to you.
"We know, too, that in about 70% or so of the hundreds of IRMAs we've written," he said, "the move was initiated by 50-and-60-year-olds . . . middle-aged kids who were seeing what was happening to their 80-year-old mother, and who were worried about not being able to financially help her. Trying to figure out how to scrape up a few hundred extra dollars a month to make sure her taxes are paid, and that her thermostat's turned up. Either that or carry around a burden of guilt for the rest of their lives. The old people are growing at twice the rate of any other segment of the population and as the purchasing power of their Social Security check shrinks, their Medicare costs are going up at the same time that the deductibles are rising, too."
Here, Burke adds, are the key points of the IRMA program:
--The lifetime, monthly annuity will range from a minimum of $100 to a maximum of $700, tax-free, based on the age of the homeowner, the value of the home and the owner's equity in it.
--The homeowner must be at least 62 years old or, in jointly-held properties, the younger partner must be at least 62.
--The entire property need not be committed to IRMA (see example).
--No credit report, financial statement or income statement is ever required, and the homeowner is never required to make any repayments as long as he (they) occupy the home.
--In addition to the monthly annuity, a lump-sum cash advance is also possible.
--The homeowner is never required to leave the home, and the heirs will never owe American Homestead anything regardless of how much has been paid out to the homeowner. "That's our risk," Burke adds.
--The interest rate to the lender is a flat 11 1/2% on the cumulative, outstanding balance.
--American Homestead pockets 100% of the appreciation in the value of the house if fully committed to the plan, or 100% of the appreciation on that portion of the equity committed.
"There might be circumstances," Burke adds, "where the homeowner's age and equity might entitle him to the monthly maximum of $700 but, in actuality, he only needs $350 a month to flesh out his Social Security and other income. In that case, he would commit only half the property to IRMA and leave the other half unencumbered. At settlement time, then, we'd be entitled to 100% of the appreciation on half the property."
Example: At the time he enters the plan, the annuitant's home is valued at $100,000. At the time of his death the value of the home has appreciated to $120,000. Since only half the home was committed to the plan, American Homestead would receive what it had paid out in the interval, plus the 11 1/2% interest, plus 100% of half the appreciation, or $10,000.
To illustrate how age influences the annuity, here are three examples of how a homeowner owning his home free and clear might be entitled to the $700-a-month maximum:
--An 80-year-old with a house valued at $100,000.
--A 75-year-old with a house valued at $140,000.
--A 67-year-old with a house valued at $200,000.
Benefits Remain Level
In the case of older married couples, the pay-out remains level during both their lifetimes--is not reduced, that is, when one of the couple dies.
In those instances where the annuitant has an immediate need for a lump sum in addition to the monthly annuity, the cash advance is financed over seven years during which a portion of the normal annuity is applied to the repayment of the advance.
For instance, the couple, on the basis of the age/equity/value formula, is entitled to a monthly annuity of $390 a month. There is, however, a critical need for an immediate cash advance of $15,000 (for back taxes, a new car or needed home repairs that, at their ages, would be difficult to finance otherwise). The monthly annuity during the seven-year pay-back period is reduced to $105, but rebounds to $390 when the advance is paid off.
In many cases, Burke emphasized, the heirs will still receive a substantial portion of the estate. For instance, a widowed mother on the basis of the $100,000 equity in her home has been receiving $500 a month from American Homestead for three years before dying. Since she has used up a relatively small portion of the $100,000 on which the annuity was based, her heirs receive the balance.
Through Local Banks
Mechanically, Burke continued, the IRMA plan is relatively simple by virtue of working through local banks (and American Homestead already has eight major ones on line) that market IRMA in their respective areas.
"The banks, in effect, lend us the money, dollar for dollar, which we then lend to the homeowner, and we assign the mortgages to the bank as collateral. We're the conduit in an operation that is purely a lending procedure for the participating banks and a shared-appreciation arrangement for American Homestead."
While some other recently announced approaches to the reverse-annuity problem, such as Oakland-based Family Backed Mortgage Assn.'s Grannie Mae program, "have their merits, they also have their limitations," Burke said. The FBMA plan requires a sale-lease-back between parents and their children or, failing there, an individual, unrelated, lender has to be lined up--a difficult search. And any tax advantages here may dry up if the new tax proposals, with their 35% top bracket, are adopted by Congress."
"And I don't really feel that the sale-lease-back is a viable solution for most people, anyway." Burke continued. "Under IRMA, we are the lender under a straight, uncomplicated, reverse annuity mortgage with shared-appreciation, and there are no tax considerations to worry about."
And while American Homestead's IRMA program may never be truly national in scope (there are some states, relatively sparsely populated and with a low percentage of over-65 homeowners, that Burke concedes he would be reluctant to enter), "we're really eager to get into New York, Florida, Arizona and, in particular, California."