For most senior citizens, your home is the largest piece of your net worth.
A Reverse mortgage on your house is one way to have a steady stream of income and continue to maintain your lifestyle. But is it enough? And what are the terms on which you give your house up via mortgage?
Let us start at the beginning.
What is a Reverse Mortgage and how does it work?
Simply put, a Reverse Mortgage is sort of like the anti-home loan.
In a home loan, you borrow funds to buy a house and repay the lender on a monthly basis.
In a reverse mortgage, the lender becomes the borrower, and you - the owner of the property, while continuing to live in the property, receive advance payments from the bank. Upon the property owner's demise, the bank then owns the home. Your ownership, or equity, in your own home, decreases with every monthly payment the bank makes to you.
In effect, the bank is, little by little, buying your home from you.
What's the procedure followed in getting a reverse mortgage?
For starters, you need to do a little homework. You would need to speak to different banks and lenders to see whether they offer a reverse mortgage in the first place, as not all of them do!
Preliminary research has yielded the following names that do offer reverse mortgage in India: State Bank of India, Central Bank, Bank of Baroda, Union Bank, Punjab National Bank, LIC Housing Finance, Canara Bank
Second, you need to compare the features of different reverse mortgages, exactly the same way you would compare different home loans. We'll go into what features you need to check in a question ahead.
Once you choose a bank and initiate talks with them regarding a reverse mortgage, the bank will assess the value of your house. They will either use an independent expert or in-house expertise. Depending on 2 things - the home value and also your age, the bank will disburse a certain loan amount to you. You have the choice of taking it either as a lump sum or as monthly or periodic payments for a certain time period.
What are the features I need to compare when taking a reverse mortgage?
The RBI has established certain guidelines for a Reverse Mortgage. These are as follows:
- The maximum loan you can receive is up to 60% of the value of your home.
- The loan tenure is capped at 20 years, however some banks will not go above 15 years which is opening the reverse mortgage product to criticism. Please note that this does not mean that once the loan tenure is over, you have to vacate the home. It only means that your periodic payments will cease once the loan tenure is over. But because this was such a restrictive clause, the National Housing Bank along with Central Bank came up with a product called Cent Swabhiman Plus which relaxes this rule by disbursing the amount as an annuity. The point of concern here is that while reverse mortgages are tax exempt, annuities are not, so it is unclear how this will be treated.
- You can choose to receive the payment in a lump sum (in one or more tranches) or you can choose to receive payment periodically, or as a committed line of credit from the financial institution / bank.
- If you opt to take the money as a lump sum, then the loan amount is capped at 50% of the value of your home. However some banks also choose to cap this at 25% of the amount, or Rs. 15 lakhs, so be sure to check all these details with the bank / financial institution.
- If you choose to receive periodic payments, you can receive then in a monthly, quarterly, half yearly or yearly manner. There is a product called Reverse Mortgage Loan Enabled Annuity Plan (RMLEA Plan)that was launched by Union Bank in combination with Star Union Daichi Insurance, wherein the spouse also receives a monthly income, or the amount, after the annuitant's death. This is also a feature in various other reverse mortgage policies so this is one thing you should definitely ask about with the bank you approach.
- If you choose to take it as a committed line of credit, you can receive money as and when you require, during the tenure of the loan, based on terms decided between you and the bank prior to finalizing the loan.
- Your property will be re-valued at least once in 3 to 5 years, and based on the revaluation, your lender has the option (but is so far not obligated) to change (read, increase) the periodic payments you receive.
- This is not applicable to commercial properties. Reverse Mortgage Loans apply only to residential properties that are self occupied by the borrower i.e. you, and the house that you live in. This is known as your 'permanent primary residence'.
What is the tax angle on a reverse mortgage?
According to the IT Act, and also according to the guidelines issued by the NHB, any income received (whether lump sum or annuity) from a reverse mortgage loan is fully exempt from tax.
The IT Act u/s 10(43) clearly states the following:
"10. In computing the total income of the previous year of any person, any income falling within any of the following clauses shall not be included: .... (43) any amount received by an individual as a loan, either in lump sum or installments, in a transaction of reverse mortgage referred to in Clause (xvi) of Section 47"
It also states the following with respect to capital gains tax on transfer of an asset:
"Nothing contained in Section 45 shall apply to the following transfers: ... (xvi) any transfer of a capital asset in a transaction of reverse mortgages under a scheme made and notified by the Central Government"
Reverse Mortgage in India
Though the concept of Reverse Mortgage was actualized in India almost 5 years ago, it still struggles to garner a serious following.
This is due to a number of reasons, the most glaring of which is the fact that there appears to not be much clarity on this product.
The NHB has issued a set of guidelines, which are not being uniformly followed by the institutions offering reverse mortgage loans.
A brief comparison of salient features of reverse mortgage loans offered by key public sector banks yielded that different banks offer different maximum tenures, different loan caps, and don't even uniformly offer the lump sum payment option. For example, a number of banks cap the maximum loan amount at Rs. 15 lakhs which is very low. So the financial utility of the scheme becomes limited to only a certain section of society, considering that there is also no guarantee of beneficial revisions in periodic repayments upon the reevaluation of the home given up for reverse mortgage.
Secondly, the product itself has not been marketed or promoted, and hence awareness that such a scheme even exists is fairly lower than was expected.
Lastly but also importantly, Indians place a high level of importance on taking care of their parents. The available audience for this scheme is therefore the children who either cannot, or do not do this, which is a minority. Equally strongly, parents place heavy importance on leaving behind an inheritance for their kids.
As a useful financial product, the reverse mortgage has miles to go before it sleeps.
However, that being said, it does augment one's income, and hence if you find yourself in your golden years and in need of augmented income, you can consider this is as a product that will assist in maintaining your standard of living, but will not be solely responsible for keeping it healthy. For thorough retirement and post retirement planning, contact your financial planner for expert advice on handling your cash flows.
For more information on reverse mortgages, read our article titled Retiring with a Reverse Mortgage - Is it Good for You?