Utilizing Home Equity in Retirement

By Branden DuCharme

You may be asking the same questions that so many of my clients have been asking me this past year, so prepare yourself now for a discussion about what has been one of the most horrifying financial products to ever exist (at least until it went through major regulatory changes a couple of years ago). I’m referring to reverse mortgages.

Now, before you close this magazine in disgust, please understand that I am not selling reverse mortgages! Instead, I want to educate you a little bit about reverse mortgages in hopes that you can understand how it may impact your retirement and legacy.

For those who have never looked into this type of loan, a reverse mortgage is a mortgage loan secured by a residential property that enables the borrower to access the equity (unencumbered value) of the property. These loans are often promoted to older homeowners and typically do not require monthly mortgage payments. However, borrowers are still responsible for property taxes and homeowner’s insurance.

Benefits of a Reverse Mortgage Loan

1. A reverse mortgage can function just as a traditional mortgage does; you can pay down the balance with a monthly payment. But the money payment is effectively optional, allowing many retirees to remain in their home without a monthly payment. This can be seen as a benefit.

2. Reverse mortgages are now regulated by the FHA. Unlike past reverse mortgage loans, the lender can no longer take your house or call your loan due while you are still living in the home. HECM borrowers may reside in their homes indefinitely as long as property taxes and homeowner’s insurance are kept current. This can be seen as a benefit.

3. A common idea being talked about right now about reverse mortgages is the idea of using home equity in years when traditional retirement accounts may be experiencing losses or trying to recover from losses. This could enable a portfolio to recover more quickly over time. This can be seen as a benefit.

Drawbacks of a Reverse Mortgage Loan

With all these exciting benefits, what are some of the drawbacks about reverse mortgages?

For starters, there can be significant costs upon the original funding of the loan. Depending on the size of your portfolio, your need for cash, the type of investments you own, and your timelines, the costs may far outweigh the benefits that are being sold.

Additionally, because there are no required mortgage payments on a reverse mortgage, the interest is added to the loan balance each month. So just as compounding interest has built your retirement portfolio over the years, it can now potentially work against you as it erodes the equity in your home.

This is a factor that I find many clients are concerned about initially. However, I encourage them to first consider these two questions:

• Is it important that the home is part of the legacy you want to leave to your posterity and do you want the home kept in the family?

• Rather than leaving the legacy of a home to your posterity, are you more concerned about leaving resources, such as money?

If my clients are worried about leaving a legacy in the form of money, using the equity in the home may or may not be the most effective way to do that. If my clients find it important to leave their home to the family unencumbered, then a reverse mortgage could impact that.

Some simulations may show that utilizing home equity through a reverse-style mortgage instead of spending funds from more traditional retirement funds can have a massive impact on the total value of the estate that you will be leaving behind. Interestingly, most of the simulations will show this impact as positive. Of course they will! They are often provided by the reverse mortgage salesperson. So remember, it is difficult to calculate the impacts of this type of decision without having all the facts and intimately understanding the details.

How can you know if a reverse mortgage is right for you? If you have an independent fiduciary financial advisor, you can consult with them. They will be able to ask you in-depth questions about your situation. Armed with this information, they will more fully understand how this type of decision may truly affect your other investments over time based on your specific holdings. They will also help you understand if a reverse mortgage is an option that will help you accomplish your long-term goals or if it will take you further away.

After meeting with your independent fiduciary advisor, you could meet with a mortgage lender to discuss the terms or a reverse mortgage loan. But before signing final documents, clarify with your independent fiduciary advisor, your tax advisor, and your attorney. Remember, it’s your financial team that will make the difference for you, not a singular person.