When it comes to retirement, no two plans are the same. A great financial plan for you really comes down to three elements:
- Your Goals and values;
- Customization;
- And Flexibility.
One way to help your plan achieve those goals might be to consider a reverse mortgage.
In retirement, it’s critical to make the most of every resource available and an often untapped asset is one’s home equity. Accessing your home equity as a measure of flexibility and another source of retirement income can be part of a customized retirement plan.
Let’s take a closer look at how a reverse mortgage could impact your financial plan!
What Is A Reverse Mortgage?
A reverse mortgage is a financial product that allows you to access the equity in your home while you are still living in it. With this product, you can convert part of your home’s equity into cash without having to sell it or pay additional monthly bills.
The best part? You can use the money for virtually anything—paying off debt, enhancing your quality of life, paying for a potential long-term care event, supplementing retirement income, etc.
Basic qualifications include:
- The youngest borrower on the title must be at least 62 years old.
- You must own the home outright or have at least 50% equity.
- The home is your primary residence (i.e. vacation homes and rental properties are not eligible).
The total amount you can tap is based on several factors including the age of the youngest homeowner, the current value of the home, the balance on the existing mortgage, and current interest rates. In today’s low-interest-rate environment, locking in low, fixed rates on a reverse mortgage can be beneficial.
The borrower does not have to pay any money back on the reverse mortgage until they move out of the house or pass away. Keep in mind interest continually accrues on the loan, the total balance of which will be due in full.
An important note about reverse mortgages is they are considered “non-recourse loans”. A non-recourse loan makes it so neither you or your estate can owe more than the value of your home when the loan becomes due, providing a buffer of protection.
How Does A Reverse Mortgage Work?
You can think about a reverse mortgage as the “reverse” of how a traditional mortgage works. Under your traditional mortgage, you pay the lender every month to buy your home over time. In contrast, with a reverse mortgage, you are the one “giving out a loan” on your home and the lender pays you. Essentially, you are taking the equity out of your home and converting it into direct payments.
A few important caveats to consider about the payments:
- Payments are usually tax-free.
- Payments generally do not impact your Social Security or Medicare benefits.
Because reverse mortgages have many requirements and primarily deal with retirees, most loans are federally insured. While there are different types of reverse mortgages (including single-purpose and proprietary), the most common is a Home Equity Conversion Mortgage or HECM. HECM’s are federally insured and backed by the U.S. Department of Housing and Urban Development (HUD).
For a HECM, there are quite a few different ways you can receive payments including:
- Lump-sum
- Equal monthly payments
- Line of credit
- Combination of monthly payments and line of credit
Each of these options has its pros and cons, making it important for any borrower to understand the nuances and what method is best for them given their long-term financial goals. For example, you can only select the lump-sum option with a fixed-rate loan, and it typically offers less than other HECM payment options.
The Top Benefits of a Reverse Mortgage
Reverse mortgages can offer retirees several benefits, chief among them are added flexibility and access to a reliable source of cash flow. Should something unexpected arise – think global pandemic, this product could give you more options for your retirement plan.
Additionally, there are several other important benefits of a reverse mortgage:
- It secures your ability to stay in your home throughout retirement.
- It can supplement other retirement costs, like home caregiving services.
- Most distributions are tax-free.
- It can act as an alternative to Long-Term Care (LTC) Insurance should you be ineligible for long-term care insurance.
- The amount of debt that must be repaid will never exceed the property’s value (non-recourse loan).
One of the most essential benefits of this product is its ability to be an alternative to long-term care insurance. With about 70% of people over 65 projected to require long-term care at some juncture and the average cost of nursing home care running over $100,000, retirees must create a reliable plan for healthcare expenses. Healthcare spending has even outpaced the growth of our economy!
Funds from a reverse mortgage could aid retirees in several health-related expenses:
- In-home caregiving and activities of daily living
- Out-of-pocket medical expenses like prescriptions or medical equipment like hearing aids
- Home safety and improvement modifications
Medicare doesn’t cover the cost of long-term care. Whether through personal savings, other investments, insurance, a health savings account, a reverse mortgage, or a combination, creating a plan is a great way to ensure you can get the quality care you need.
Critical Drawbacks To Understand Before Signing
Just like any financial product, there are valid and important drawbacks to consider before seeking a reverse mortgage. The product’s risks must be assessed based on your financial situation.
Risks and limitations include:
- Reverse mortgages come with high fees (interest, insurance, loan fees, origination, closing costs, etc.). This can lead to bulky up-front costs.
- Borrowers have limited access to their full home equity—typically people only get around 80-85%.
- It presents challenges for homes with multiple tenants, such as a multigenerational family.
- It brings added difficulty to pass the home to heirs as the house will likely need to be sold to pay off the loan.
- You must be able to pay taxes and insurance, or risk foreclosure.
Is A Reverse Mortgage Right For You?
We’ll stick to the famous financial planning answer,
It depends.
Your retirement plan should have a layer of protection—a cushion—to help you live the life you want in your golden years, but that cushion will look different for every person or couple.
A reverse mortgage could bring more flexibility to your plan, providing access to perhaps your most valuable asset: your home. If you want to age in place, you aren’t planning on passing the home to your heirs, and you find a policy that works for you, it could be a sound product to add to your retirement arsenal.
But if you’re concerned about the up-front costs, have a sound health care plan, and want to move out of your house in retirement or pass it to your heirs, this product likely isn’t for you.
If you are considering or would like to see the actual impact a reverse mortgage may have on your retirement plan, we would love the opportunity to help you. As a fiduciary firm, our goal will always be to provide advice in your best interest and guide you towards your goals. Schedule a call with us today.
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