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Is a Reverse Mortgage A Smart Move for Baby Boomers Heading into Retirement?
By Mallika Mitra MONEY RESEARCH COLLECTIVE
If you’re nearing retirement and worried about not having enough in the piggy bank, you’re not alone.
More than two-thirds of peak baby boomers — those turning 65 in the next five years — will struggle to meet their financial needs in retirement, according to a report from the non-profit group Alliance for Lifetime Income.
Many of those boomers who are homeowners could be overlooking an untapped asset when retirement planning. If you have significant home equity, a reverse mortgage may be a way to bring in some extra cash. These products allow you to borrow money from a lender against your home equity, bridging the gap between what you have and what you need to retire comfortably. In 2022, just over 79% of older Americans owned homes, with the median home equity held by those 65 or older at $250,000, the Joint Center for Housing Studies of Harvard University reported last year.
Read on to learn more about how baby boomers can benefit from reverse mortgages as they head into retirement and how to decide if this type of loan makes sense for you.
Reverse mortgages can supplement your income in retirement
When you take out a reverse mortgage, you’re borrowing money from a mortgage lender while using your home as collateral, and monthly payments to the lender are not required. In other words, you’re given money that you don’t have to pay back until you no longer live in the home or fail to meet the loan requirements.
As pensions disappear and the cost of living eats into savings, that money can boost your cash flow during a critical transition in your life. You can use the loan from a reverse mortgage company however you’d like. If you have a mortgage on your home, you’ll be required to first pay it off with the reverse mortgage. If you don’t have a mortgage or have money left over after paying it off, you can use the proceeds for other things, like home renovations or to cover your day-to-day living expenses so you can delay taking Social Security. Borrowers can choose to receive reverse mortgage payments as a lump sum, in monthly payments, as a line of credit they can tap as needed, or a combination of these methods.
Even if you’ve saved in a 401(k), individual retirement account (IRA) or other type of retirement savings account, a reverse mortgage can come in handy by allowing you to keep your money in those accounts. A 2021 study published in the Journal of Financial Planning illustrated how being able to skip withdrawals from a retirement savings account can greatly increase your chances of having enough money to get through your later years.
The thinking is that reverse mortgages provide your portfolio with diversification, allowing you to skip distributions during market downturns. The report found that a portfolio of $750,000 invested in the S&P 500 in 1990 would run out of money by 2019 if you withdrew from it every single year, but one that allowed for two skips still had around $556,000 at the end of those twenty years.
Are there downsides to a reverse mortgage?
While reverse mortgages can make sense for some people heading into retirement, they aren’t the best move for everyone. If you’re considering taking out one of these loans, keep in mind that reverse mortgages:
- Can be costly. You’ll be responsible for origination fees (which top out at $6,000), closing costs like appraisal and inspection fees, and an initial mortgage insurance payment. Some of these fees can be negotiated or waived entirely, and you may also be able to roll them into the loan, which will reduce your upfront expenses. Like any other loan, fees vary by lender, so it’s smart to shop around. You’ll also need to budget for ongoing expenses like property taxes, homeowners insurance and home maintenance. The National Reverse Mortgage Lenders Association has a calculator that can help you map out these costs.
- May impact your benefit eligibility. If you take out a reverse mortgage, it’s important to first understand how the move could impact your eligibility for need-based government benefits like Medicaid and Supplemental Security Income. Your eligibility for Medicare and Social Security will not be affected, though.
- Are taken out of your inheritance. When you die or move out of the home you have a reverse mortgage on, the loan becomes due. You or your heirs can surrender the home to the lender or repay the balance due by either selling the home or converting the reverse mortgage into a conventional one and hanging on to the home.
How to determine if a reverse mortgage is a smart move for you
Reverse mortgages are complicated financial products, and it’s important to speak to a financial advisor before moving forward with them. But you can start by answering some general questions to determine whether a reverse mortgage makes sense as you head into retirement.
Do you meet the requirements for a reverse mortgage?
Most reverse mortgage loans are government-backed Home Equity Conversion Mortgages (HECMs) that come with certain requirements from the Federal Housing Administration (FHA). These requirements were designed to help protect consumers who use these products. To take out a HECM, you need to be at least 62 years old, use the home in question as your primary residence, own the home outright or have enough equity in it, and not hold any federal debts.
You’ll also be required to meet with a counselor from the Department of Housing and Urban Development (HUD) if you opt for a HECM.
Keep in mind that while 62 is the minimum age for a reverse mortgage, being older may help you access more money and snag better terms. That’s because lenders consider a potential borrower’s lifespan when determining your loan; the older you are, the less time the lender will have to wait to recoup their money.
Do you have heirs you want to leave the home to?
If so, you may want to reconsider a reverse mortgage, especially if you plan to pass your home down to them debt-free. If you do take out a reverse mortgage, you can still leave your home to heirs. But once your heirs receive a payment due notice from the lender, they’ll have to decide quickly how they’ll satisfy the debt. They can either pay the loan from their own funds, sell the home to repay the reverse mortgage or turn it over to the lender. The FHA says this can happen in as little as 30 days, but if you can show the lender you’re actively working to resolve the issue, it’s possible to extend the timeline for up to one year.
Do you want to stay in your home long term?
A reverse mortgage isn’t meant for people who plan to leave their home in a few years, whether that be to downsize, move in with family members, relocate to a lower cost-of-living area or move to a nursing home. Because there are upfront costs tied to a reverse mortgage, you want to be sure you’ll be staying in the home long enough to recoup that money.
Have you considered all your options?
If, for example, you need some extra cash flow for a short period of time before you relocate, home equity loans or home equity lines of credit may be a better option for you. Other options include a cash-out refinance or personal loan. Before making a decision, it’s wise to also review your plan with a financial advisor who has insight into your overall finances.