Growing reverse mortgage market faces risks: DBRS

Canada’s roughly $6-billion reverse mortgage market will continue to grow as more seniors tap into home equity to fund retirement and other expenses, a report from DBRS Morningstar says, but the loans come with risks for providers.

Rising real estate prices — particularly in Toronto and Vancouver — are driving Canada’s reverse mortgage market, which allows Canadians older than 55 to tap their home equity without selling, the report said.

Older Canadians are using reverse mortgages to age in their homes while paying other expenses or to help their children with down payments on homes.

At less than $6 billion, there’s room for Canada’s reverse mortgage market to grow, DBRS said. Some estimates show that less than 0.5% of the country’s six million senior households have a reverse mortgage.

Home Equity Bank is by far the largest provider, with Equitable Bank gaining some share, but DBRS said it expects increased competition in the market.

However, the run-up in housing prices in Toronto and Vancouver during the pandemic has created risks for newer loans.

“This rapid spike in prices makes recently originated reverse mortgages more risky in a severe real estate market downturn but provides increased protection for older vintages,” the report said.

The interest rates for reverse mortgages are available in fixed or variable terms, the report said, and are generally 150 to 300 basis points higher than a conventional mortgage or home equity line of credit.

Reverse mortgages are typically paid from the proceeds of a home sale. The principal and accrued interest become due within a certain period after the last borrower dies or moves into a long-term care facility, or after the property is sold or transferred. The borrower’s age is an important underwriting factor.

Provided the borrower pays property taxes and insurance and keeps the home in a good state, “reverse mortgage providers have no recourse to the borrower if the net proceeds from the sale of the property are less than the amount owed on the reverse mortgage,” the report said.

Last month, the Office of the Superintendent of Financial Institutions tightened requirements for reverse mortgages. Financial institutions will have to limit reverse mortgages to a maximum authorized loan-to-value (LTV) ratio of 65%.

“Repayment risk increases in a housing market downturn, particularly for reverse mortgages with higher LTVs; however, this risk is somewhat mitigated by the fact that reverse mortgages have lower LTVs than traditional mortgages at origination,” DBRS said.

“Therefore, property valuation and appraisals are a critical component in determining the initial mortgage amount and maintaining strong asset quality and capital buffers to absorb unexpected losses in a stressed environment.”

The report noted that the maximum LTV for Home Equity Bank and EQ Bank reverse mortgages is 59%, but the average is much lower.