How You Pay for Your Next Home Matters!

by Ken Updegrave

Housing costs are usually the first or second-largest expense for most households that are in retirement. How you pay for your next home can dramatically change how successful and enjoyable your retirement years can be. According to the National Association of Realtors, most home buyers finance their new home purchases, even if they are 65 or older. Today, the majority of retiree home buyers are using conventional financing to pay for their new home. That statistic confirms that over 40 percent of current retirement-aged homeowners are still carrying mortgage debt. That number has undoubtedly increased over the last several decades and was made worse by the Great Financial Crisis and what that did to both home values and retirement portfolios.

What if everything you once thought you knew about owning a retirement home was not correct? How soon would you want to know about a better solution available to you that could help protect your other assets and create a better lifestyle for you to enjoy as well?

Tax laws have changed effective 2018 and will likely change during your retirement years. With the limitation on the deduction for state and local taxes and lower mortgage interest rates, fewer people than ever benefit from an annual mortgage interest deduction.* Most buyers like you are only aware of the traditional ways to pay for that last home that you wish to buy. Which traditional option are you thinking of using?

To hang onto as many of your assets by taking out a conventional mortgage with the associated monthly cash flow required to meet monthly principal and interest payments? Or, pay cash for that purchase and reduce your liquidity to avoid the monthly cash flow needed to make that mortgage payment?

Since 2009, there has been another option available to home buyers at least 62 that allows them to make a large one-time down payment based on their age and current interest rates, and not have a required monthly principal and interest payment in the future. That loan is called the Home Equity Conversion Mortgage for Purchase, or H4P loan for short. The H4P loan gives you an option that combines the best features of the other two options, while creating additional liquidity and no additional monthly cash flow needed for a required monthly mortgage payment. Of course, you’re still required to pay taxes, insurance, and maintenance.

Now consider a 68-year-old who has cash available from selling their $600,000 paid-off home and plans to move to a lower living area. They could purchase a $500,000 brand new home with a $250,000 down payment and still have $350,000 funds left to create more income/assets outside the home.**

The H4P loan works for most people who don’t make payments on the loan, because the expected increase in value from home appreciation largely offsets the increasing loan balance from not making a monthly payment.

For example, an H4P borrower who makes no payments on a $250,000 loan even at a 5 percent total annual cost only adds $12,500 in interest to the loan balance during the first year. If the home appreciates at 3 percent that year, the home value has grown by $15,000. Equity has gone up even without making a payment, solely due to appreciation. Conversely, if you had financed the other $250,000 loan with 30-year conventional financing at a 3 percent interest rate, your principal and interest payment would require you to come up with over $12,000 in principal and interest payments. Your loan balance would be almost $245,000 after that first year, but that $12,000 in payments can cost you in multiple ways.* For instance, if you are pulling money out of retirement accounts to make the mortgage P&I payments, you also need to withdraw the taxes for those payments. This could be depleting your retirement account faster than you would be required to by Required Minimum Distributions on those accounts.* On the other hand, leaving those funds in those accounts can create more opportunities to grow your wealth for your or your heir's use in the future.

Now that you know there is another option available after reading this, wouldn’t it be worth it for you or your financial advisor to run the numbers on all three options and see which one works out best? It also would be prudent for your advisor or CPA to look at the tax planning possibilities that this might create for you or your heirs through large onetime interest deductions that may be available when paying off some or all of the H4P loan.

Buying that new home is about so much more than the financial side of it. It’s where we spend time having family gatherings, enjoying that new grandchild, having friends over for dinners and holidays, and even caring for someone you love. Of course, those things are the most important, but having the money to enjoy all those things can give you the peace to enjoy those moments on a bigger scale.

Most but not all reverse mortgages are Home Equity Conversion Mortgages—HECMs—and are only available through an FHAapproved lender. This article talks about HECM loans only. * This article does not constitute tax and/or financial advice. Please consult a tax and/or financial advisor regarding your specific situation.

** The required down payment on your new home is determined by several factors, including your age or eligible non-borrowing spouse’s age, if applicable; current interest rates; and the lesser of the home’s appraised value or purchase price.

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