We get questions all the time about Reverse Mortgages. If you’re 62 or older – and want money to pay off your mortgage, supplement your income, or pay for healthcare expenses – you may consider a reverse mortgage.
First, what exactly is a Reverse Mortgage? It allows you to convert part of the equity in your home into cash without having to sell your home or pay additional monthly bills. A reverse mortgage can be complicated and might not be right for you. A reverse mortgage can use up the equity in your home, which means fewer assets for you and your heirs.
Let’s be honest, running out of money while there is still much life to live is scary! Many financial professionals and their clients were initially leery of reverse mortgage loans. However, Home Equity Conversion Mortgage (HECMs) have matured and become increasingly valid and useful retirement income tools. After accepting industry input, safeguards were instituted in the Reverse Mortgage Stabilization act of 2013. Costs were dramatically reduced and borrowers and their surviving spouse could only lose their home under very limited situations. Additionally, repayment protocols for loan recipients and their heirs were outlined firmly and with clarity.
Subsequent protections include:
October 2013: HUD limited upfront draws to 60% of qualification or 100% of mandatory financial obligations. Now, borrowers cannot “spend it all” at once, the medication became time released. Also, upfront Mortgage Insurance Premiums were lowered for those who stay under the 60% draw amount.
August 2014: HUD ensured that non-borrowing spouses are granted equal deferral provisions. Now, a qualified, non-borrower surviving spouse cannot lose the right to own and occupy their home.
April 2015: HUD instituted mandatory financial assessment. Now, every HECM borrower must demonstrate the ability to continue paying taxes, insurance and maintenance expenses for their expected lifetimes, so that fewer homes are lost due to tax and insurance default.
To answer what is often a client’s first question, accepting this income stream usually does not affect Social Security or Medicare benefits. The IRS qualifies reverse mortgages as loan advances, not earned income, so the payments received are not taxable nor do they affect a client’s Adjusted Gross Income.
Another important fact. A reverse mortgage is a non-recourse loan. This means that the final repayment amount cannot exceed the value of the house.
Reverse mortgage income strategies were previously used as a passive avenue of last resort. However, opening a line of credit earlier in retirement and delaying its use can be actively advantageous. Accepting an HECM credit line during a low interest rate window is key. The size of the allowable line of credit hinges on the interest rate. As interest rates rise, the ceiling cap for the loan amount will drop, sometimes substantially, reducing this prescription’s effectiveness. The objective is to release the maximum liquidity stored within one’s home and preplan the use of that unlocked wealth with more efficiency.
In other cases, delaying home equity use for as long as possible will prove better. A significant health issue or any host of blindsides can unexpectedly reduce a well-structured retirement plan to shambles. Drawing from a pre-established line of credit, which has grown predictably over the years, is preferable to entering into a rushed reverse mortgage when rates may be high and home values low.
Randall Buffam, a 10-year veteran loan officer offers a concrete example: “A 70 year old borrower with a $650,000 home could see their line of credit grow from $358,000 to $701,000 in just ten years. This is like equity insurance,” he adds, “because the growth is not dependent on the value of the home. The growth rate of the line of credit will be the same as the interest rate of the loan as a term of the contract.”
The fact is many Americans will run out of money during retirement. Even middle or upper-middle class retirees can end up cash strapped and become vulnerable later in life. If you are 5-10 from retirement or retired, we can answer questions you may have, take a second look at your portfolio or create a plan for a successfully retirement.
Eric and Jennifer Lahaie
JEHM Wealth & Retirement