Responsible Uses for Reverse Mortgage (HECM) in Retirement
The HECM or Home Equity Conversion Mortgage (aka Reverse Mortgage) doesn’t get enough respect in financial planning circles. The idea is this: You use the equity in your home to borrow money from the bank, the same as you would with a Home Equity Loan or Home Equity Line of Credit. What sets the reverse mortgage apart however, is that you do not have to make monthly payments. In fact, you do not have to repay the loan at all until you cease to live in the home or you die. So you can borrow money and never have to repay it? What’s not to like?
Well, there are a couple potential issues. There is a knee jerk reaction by financial planners that says the loans are expensive to setup. And this is true. For this reason, it is important that the homeowner have the intent and the financial wherewithal to remain in the home for at least 5 to 10 years. When the initial setup costs are spread over many years, they are less significant. Interest rates tend to be less expensive than traditional mortgages as well, which offsets somewhat the higher upfront “closing” costs.
There is aversion by some older folks to the idea that they are spending their kids inheritance. But you are doing that every time your take money from your investment account or spend money from savings as well. There is nothing truly sacred about a home (burn the heretic!!!). It is just another asset which you paid for and which should be included as part of your overall retirement plan.
Now I am not recommending that every retiree run out and take on a reverse mortgage. However, here are some areas where it might make sense as part of your overall financial plan.
Credit Line for Unexpected Expenses: Lets say you have a big medical expense, or you need to replace the air conditioning in your home. What are the options if you are retired? You can take money from your IRA – but that might mean a big tax bill. You can take out a home equity loan – but what if you don’t have cash flow to make the payments? With a reverse mortgage established as a line of credit, you have the ability to borrow money for major unexpected expenses. Since you are borrowing the money, there is no tax consequence whatsoever.
Delaying Social Security. For those with minimal other resources available for retirement, getting the most out of Social Security is crucial. Using a reverse mortgage to cover expenses early in retirement could help a homeowner delay taking social security until age 70 – which maximizes his or her benefit (and also maximizes the spouses survivor benefit should the individual die).
Last Resort Source of Funds. Many retirees turn to reverse mortgage as a sort of last resort, after all other finances are exhausted, but they still want to remain in the home. In this case, careful planning is essential to make sure that there will be enough funds to pay for taxes, utilities, upkeep, and all living expenses for enough years to make the cost of the loan make sense. Otherwise, one might be better off selling the home outright and finding less expensive living quarters.
Medicaid Planning for Long Term Care. If one spouse needs long term care and is applying for Medicaid, but the other wants to remain in the home, a reverse mortgage provides funds for living expenses which will not be reportable to Medicaid as income. Medicaid allows a healthy spouse to keep the home and a very modest income and asset allowance.
Tax planning. It might make more sense to use a reverse mortgage than to sell highly appreciated assets in an investment account. Yes, interest will accrue and eventually need to be repaid – but the assets you did not sell are hopefully still growing, which can offset some or all of the cost.
As with most financial products, the Home Equity Conversion Mortgage (aka Reverse Mortgage) is neither good or bad of itself. Used responsibly, as one component of a comprehensive financial or retirement plan, the product has the potential to improve the lives of retirees.
Questions? My advice would be to discuss with a fee only financial planner who can provide an unbiased review of your options. Such an individual can impartially review any proposal being made by a mortgage rep as well. You can find a fee only advisor at www.napfa.org