The numbers are staggering: Baby boomers are turning 65 at a rate of about 10,000 a day. According to the PWC Employee Financial Wellness Survey, roughly half of all baby boomers have saved $100,000 or less. For this generation, retirement may last 30 years or more and and will be expensive. Basic living expenses such as groceries, fuel, and electricity will stretch budgets, leaving little money for hobbies and other leisure activities that the boomers enjoy today.
Despite being eligible for Social Security, some seniors may decide to work longer or take a part-time job in retirement to make ends meet. Others will downsize, ‘right-size’ where they can age in place, or sell a second home if they have one. For those who are homeowners, a reverse mortgage can offer an additional way to provide a source of income during retirement.
Reverse mortgages come in a variety of flavors. One of the popular reverse mortgage programs is the Home Equity Conversion Mortgage (HECM). The purpose of a HECM is to convert part of the equity of your home into cash. If you are 62 or over and have a primary residence with equity that is greater than half the value, you may be eligible for a HECM. This is the only reverse mortgage program run by the Federal Housing Administration (FHA) to help seniors.
The proceeds from the HECM can be used for any purpose. The loan is required to be paid back when there is a maturity event (such as the sale of the house) or when the owner permanently leaves the home. The home must be maintained properly and the financial obligations such as real estate taxes and insurance must be paid.
The initial costs of a reverse mortgage can be high, so if a homeowner is considering relocating in the next few years, this type of loan might not make sense. Also, if the homeowner wants to leave the house as an inheritance, a reverse mortgage is not likely a good option. There may be other options that could be less expensive depending on the situation, so some initial research is worthwhile.
However, for some people, a reverse mortgage can be a good option. Ultimately, the borrower should review the details of the loan and understand the benefits, the cash-flow created, and the parameters of what they give up. (For an estimate of the fees and the payout, go to the calculator at www.reversemortgage.org and enter the data points.) The loan amount depends on the age of the borrower(s), the appraised home value, current interest rates, and the FHA lending limit of $636,150. The older you are and more valuable your home is (with no mortgage), the more you will be eligible to receive.
There are a variety of ways to take the proceeds. A popular and often recommended strategy is to take the home equity line of credit and only borrow some of the money up front so that the remainder stays available but unused. This method allows the proceeds, or the extension of credit, to grow at the current interest rate. The amount of the line of credit increases by a predetermined amount, based on the previous month’s credit line balance and the interest rate. The interest rate will be variable. This is one of the most attractive features of the HECM because the borrower only pays interest on the balance borrowed and not the unused balance.
Every situation is different and a reverse mortgage is just one tool in an advisor’s tool kit for clients in retirement. The HECM is only one of several types of reverse mortgages on the market today. It is not for everyone and the program is complicated, but when it is understood properly and used responsibly, a reverse mortgage can be a solution to an otherwise limited cash flow situation.
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