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When I first proposed ways to translate the abstract notion of home equity conversion into a practical financial instrument, I called it an “actuarial mortgage” or a “housing annuity.” While I don’t believe I specifically designed today’s HECM program, I did conduct a great deal of early research on the voluntary conversion of home equity for those older people who need more current income. Here is my story.
In the early 1960s, while studying income and wealth distributions among older people in the context of poverty, I became intrigued by the “income poor but house rich” phenomenon that plagued many of them. The then-prevailing tendency was to judge the extent of poverty among the aged (and the general population) by current income alone, without taking account of property or asset possessions. I believed that incidence of poverty among old people would be lower if poverty were measured using what might be called the “net-worth approach.” The net-worth approach calls for adding up all the assets, liquid and non-liquid, a person owns minus all the liabilities he or she owes.
Under this concept, a “net-worth-adjusted income,” which would be the sum of potential income from annuitized net worth plus current income, would replace current income alone as a yardstick by which to assess a person’s full financial capacity and their poverty status. This would be a superior method, in theory, as it more accurately counts all the financial resources under a person’s command.
In practical terms, however, the net-worth-adjusted income measure falls short when it comes to non-liquid assets, especially as they pertain to the net home equity in a person’s residence. For the net-worth-adjusted income to make practical sense, therefore, non-liquid assets such as a home must be able to be sold. But older homeowners were typically reluctant to sell their homes. It was not until I tried to resolve this dilemma did I come up with the concept of a financial product that would allow voluntary conversion of the person’s net equity in the home into a lifelong flow of income (or annuities) as spendable cash, while being assured of lifetime occupancy in the house or upon voluntary move-out.
I gave my first seminar on this idea of home equity conversion at the joint meeting of the Social Systems Research Institute and the Department of Economics at the University of Wisconsin in December 1963. I later presented a paper at the 1965 annual conference of the National Tax Association that concluded with this concept. In 1966, I published an article on the same message in The Gerontologist. That same year, before an international research community at the seventh International Congress on Gerontology in Vienna, Austria, I argued for the net-worth concept of poverty and broached the notion of an actuarial mortgage plan. In those early days, I was unaware that home equity conversion was an idea with a history and not the new idea it seemed to me then and to those who heard or read about it from me.
New or not, arguably home equity conversion could be a useful adjunct to financial resources for retirement. With individuals and society facing new and emerging demographic and economic conditions, more resources seem required to finance a longer period of healthy aging and not-so-healthy aging. Moreover, voluntary home equity conversion would promote self-reliance and reduce the public expenditures financed by higher taxation that otherwise would have been required to assist the financially strapped.
In the 1960s, few people were aware of the central notion of home equity conversion, but some in the U. S. Congress were clearly interested in the “actuarial mortgage plan” I had advocated. In 1967, I was invited by the Joint Economic Committee of the Congress to contribute to a compendium of papers on retirement income programs. Also in 1967, I was invited by the chairman of the Senate Special Committee on Aging to submit a statement. Then in 1969, I was invited to testify before the Subcommittee on Housing for the Elderly of the Senate Special Committee on Aging.
As interest in the idea of home equity conversion among some academic researchers and policymakers grew, I did not know how the general public would react to it. For that purpose, in 1970, I received a research grant from HUD to study the receptivity of home equity conversion through an opinion survey. The survey was conducted on a probabilistic sample of single-family, owner-occupied homes whose heads were from 55 to 75 years old in Los Angeles County in California. (The location was chosen because I was then teaching at UCLA.) By that time, I had named the potential mortgage instrument a housing annuity. A monograph of that study was published in 1973.
In fact, it was not until 1969, when I was preparing to apply for this HUD grant, that I come across a newspaper story about a version of home equity conversion that had already been in use in France for decades.
In France, the story indicated, the owner of a house or other real estate could sell the property for a lifetime annuity (called a viager) with the purchaser taking possession of it upon the seller’s death. For the owner, it was a means of obtaining income without selling the house outright. For the buyer, it was a way of acquiring property without a large and immediate disbursement of funds. The buyer would pay a sum less than the market price of the property, since he would have to wait for an unknown period of time to take title, and he would be speculating that he would outlive the seller. Other things being equal, prices tended to rise with the seller’s age. Viager would be a transaction between individuals, typically with the assistance of a lawyer.
One modern-day example of this transaction involved Madame Jeanne Calment (1875-1997) of Arles, France, the individual with the longest documented longevity before and since her death on August 4, 1997. Thanks to Dr. Allard, who gave me his co-authored book in November 1999, I learned that Madame Calment entered into a viager contract at age 90. She received a monthly payment for 32 years—it was paid by the “buyer” of her apartment, a lawyer, for 29 years until his death and then by his heirs for another three years until her death, at age 122.
Some other practice in another part of the world resembled the idea of home equity conversion. While doing the study funded by HUD in 1970, I learned something of interest that reportedly happened in Poland. The study was designed to assess homeowners’ receptivity to a proposed idea of converting home equity into cash, using in-person survey research. There was an open-ended question in the survey instrument. A respondent offered the information that some years ago a Polish peasant could receive a pension from the government for a lien on his house; he could live in his house throughout his lifetime, and the government would take possession of the house upon his death.
There was still more information to be learned. In 1979 and 1980, two conferences on home equity conversion were held in Madison, Wisconsin. In the course of those proceedings, Nelson Haynes of Deering Savings and Loan Association of Portland, Maine, reported that in 1961 he had made what amounted to a reverse mortgage loan to Nellie Young, the widow of his high school football coach.
All these examples were bilateral arrangements in “personal” markets, involving transactions between individuals or between an individual and the government. What I envisioned, however, was the creation of an “impersonal market” for a new type of mortgage product involving both the private and public sectors. This product would entail joint operation of several financial intermediaries such as banks or savings and loan associations, mortgage companies, private and public pension funds, and possibly also involving home improvement companies, with the support of the government.
To summarize, the idea of home equity conversion came from the concept of measuring the command of one’s financial resources based on the “net-worth concept.” In economic terms, home equity conversion would simply be another form of dissaving. When a young person builds up home equity, he or she mortgages their future income to acquire an asset; when an old person converts the home equity into cash, he or she mortgages their asset to acquire a supplemental income. From the standpoint of earning and spending over one’s economic life cycle, saving while young followed by dissaving when retired seem perfectly logical and sensible.
