Rising Mortgage Borrowing for Seniors

graphic by www.aag.com/retirement-reverse-mortgage-pictures

J. Michael Collins et al. have posted Exploring the Rise of Mortgage Borrowing Among Older Americans to SSRN. The abstract reads,

3.6 million more older American households have a mortgage than 2000, contributing to an increase in mortgage usage among the elderly of thirty-nine percent. Rather than collecting imputed rent, older households are borrowing against home equity, potentially with loan terms that exceed their expected life spans. This paper explores several possible explanations for the rise in mortgage borrowing among the elderly over the past 35 years and its consequences. A primary factor is an increase in homeownership rates, but tax policy, rent-to-price ratios, and increased housing consumption are also factors. We find little evidence that changes to household characteristics such as income, education, or bequest motives are driving increased mortgage borrowing trends. Rising mortgage borrowing provides older households with increased liquid saving, but it does not appear to be associated with decreases in non-housing consumption or increases in loan defaults.

The discussion in the paper raises a lot of issues that may be of interest to other researchers:

Changes to local housing markets tax laws, and housing consumption preferences also appear to contribute to differential changes in mortgage usage by age.

Examining sub-groups of households helps illuminate these patterns. Households with below-median assets and those without pensions account for most of the increase in borrowing. Yet there are no signs of rising defaults or financial hardship for these older households with mortgage debt.

Relatively older homeowners without other assets, especially non-retirement assets, may simply be borrowing to fund consumption in the present—there are some patterns of borrowing in response to local unemployment rates that are consistent with this concept. This could be direct consumption or to help family members.

Older homeowners are holding on to their homes, and their mortgages, longer and potentially smoothing consumption or preserving liquid savings. Low interest rates may have enticed many homeowners in their 50s and 60s into refinancing in the 2000s. Those loans had low rates, and given the decline in home equity and also other asset values in the recession, paying off these loans was less feasible. There is also some evidence that borrowing tends to be more common in areas where the relative costs of renting are higher–limiting other options. Whether these patterns are sustained as more current aging cohorts retire from work, housing prices appreciate, and interest rates increase remains ambiguous.

The increase in the use of mortgages by older households is a trend worthy of more study. This is also an important issue for financial planners, and policy makers, to monitor over the next few years as more cohorts of older households retire, and existing retirees either take on more debt or pay off their loans. Likewise, estate sales of property and probate courts may find more homes encumbered with a mortgage. Surviving widows and widowers may struggle to pay mortgage payments after the death of a spouse and face a reduction of pension or Social Security payments. This may be a form of default risk not currently priced into mortgage underwriting for older loan applicants. If more mortgage borrowing among the elderly results in more foreclosures, smaller inheritances, or even estates with negative values, this could have negative effects on extended families and communities.

Foreclosure Body Count

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Case Western’s Matt Rossman has posted Counting Casualties in Communities Hit Hardest by the Foreclosure Crisis (forthcoming in the Utah Law Review) to SSRN. The abstract reads,

Recent statistics suggest that the U.S. housing market has largely recovered from the Foreclosure Crisis. A closer look reveals that the country is composed not of one market, but of thousands of smaller, local housing markets that have experienced dramatically uneven levels of recovery. Repeated waves of home mortgage foreclosures inundated certain communities (the “Hardest Hit Communities”), causing their housing markets to break rather than bend and resulting in what amounts to a permanent transition to a lower value plateau. Homeowners in these predominantly low and middle income and/or minority communities who endured the Foreclosure Crisis lost significant equity in what is typically their principal asset. Public sector responses have largely ignored this collateral damage.

As the ten-year mark since the onset of the Foreclosure Crisis approaches, this Article argues that homeowners in the Hardest Hit Communities should be able to deduct the damage to their home values caused by the Crisis from their federal taxable income. This means overcoming the tax code’s usual normative assumption that a decline in a home’s value represents consumed wealth and, thus, is fully taxable. To do so, this Article likens the rapid, unusual and enduring plunge in home values experienced by homeowners in the Hardest Hit Communities to casualty losses – i.e. damages to personal property caused by a sudden force like a storm or a hurricane – which are deductible. The IRS and most courts have insisted this deduction is limited to physical damage. This Article carefully dissects the law and principles underlying the deduction to reveal that the physical damage requirement is overbroad and inequitable. When viewed in the larger context of other recent tax code interventions that allow those who have experienced personal financial harm due to a crisis to reduce their income tax base accordingly, home value damage in the Hardest Hit Communities actually fits comfortably within the concept of a casualty loss.

Notwithstanding its normative and equitable fit, the casualty loss deduction poses several administrative challenges in its application to the Foreclosure Crisis. This Article addresses each challenge in turn, explaining the extent to which the Treasury Department and the IRS, through administrative action and/or a careful application of case law precedent, can resolve it. The Article also identifies and grapples with the distributional reality that the casualty loss deduction, in its current form, provides a small or no return on lost home equity for a sizable number of low and middle income homeowners, which would make it a problematic method of recovery for homeowners in the Hardest Hit Communities. To make the deduction a better and more equitable fit under the circumstances, this Article identifies two, larger-scale modifications the federal government could adopt: (i) changing the method by which a casualty loss is valued for damage caused by the Foreclosure Crisis and/or (ii) lifting the floors and limits Congress has over time imposed on the deduction, as it has done for those taxpayers most heavily impacted by several recent hurricanes and droughts.

The article offers a creative response to ameliorate an aspect of the foreclosure crisis. Rossman concludes, “Once these homeowners are considered equally worthy of claiming a casualty loss, the question then shifts to how the IRS, the Treasury Department and/or Congress can best adapt and address the administrative and distributional challenges attendant to utilizing the casualty loss deduction in this context. These challenges are not insurmountable barriers, but rather issues to be carefully considered and strategically addressed.” (67)

I can certainly imagine some of those challenges, such as how to reliably identify a “permanent transition to a lower value plateau,” but articles of this type are just what we need as we try to figure out how to address housing crises of this magnitude.  While there was a big gap between the housing crises of the Great Depression and the Great Depression we can be sure that there will be another such event at some point in the 21st century.