My neighbor recently passed away after an extraordinary life. I worried how his kids would feel when they discovered that he had a reverse mortgage. I confess I drag memories of reverse mortgage horror stories from the eighties and nineties and it was shadowing my opinion of his decision. This past weekend I talked to one of the kids as they were cleaning out the house and it turns out he did it right. The reverse mortgages of today are benefiting from years of cumulative protections and improvements. Especially a 2015 rule that protects non-borrowing spouses and stopped many of the worst horror stories.
As of the last census, the average American age 65 and older holds 85% of their net worth in their home equity. That is not our typical client and we would like to think we have a little something to do with that, but we still see clients with a significant amount of home equity. Historically we might have told clients to keep the option of a reverse mortgage in their plan as an emergency backup if longevity was well beyond our expectations. With the new rules in place and interest rates at historic lows, however, we see that some clients might benefit from opening a reverse mortgage (the most common is called a HECM or Home Equity Conversion Mortgage) early in their retirement plans and accessing it optionally as a stream of income to address something we call sequence of return risk. A strategy example would be activating a stream of income from the HECM and deferring social security to accrue the 8% deferral credits. When they hit 70, they turn off their HECM income and turn on their larger social security benefit. If they are over their cash flow goals, they might even consider opting to pay back part or all the HECM loan.
Six years ago, my neighbor sat all his children down and asked if any of them wanted the family home. A few tears were shed as they acknowledged that no one envisioned ever living there again, so my neighbor explained he would be moving forward with a reverse mortgage. He was confident in his planning and borrowed half the equity of the home to live on, while still leaving the door open to the heirs to claim the home in the future. To reclaim the home, they could repay the equity he borrowed and its growth over the last six years. The kids can also sell the house themselves, pay back the loan and split the equity, or let the bank do it and they would get the remaining equity eventually. Secretly, he planned to live to 110 to break the bank: the rules of reverse mortgages would allow him to remain in his home without ever paying back a nickel.
Another good example is shown by a set of clients who were moving to their dream home used an “HECM for Purchase” and put the equity from their old home into the new home and used the HECM (or reverse mortgage mechanism) to eliminate a mortgage. Even though it’s a new home built to their specifications, it has all the same protections as if they took a reverse mortgage on their long–time family home.
Consumers need to be careful of their cash flow because when a homeowner finds that they don’t have the resources to pay bills and they’ve taken all the equity that they can through the HECM; they can lose their home. The HECM lender cannot take the home but the local government can take it for back taxes. There are also adult children who move in to care for elderly parents who might expect to remain in the house after their parents pass to compensate them for years of unpaid caregiving without knowing that the reverse mortgage is in place. My neighbor prevented that by keeping his entire family informed early. He died as he lived, a financial luminary in the eyes of his children and they felt informed and respected by him. He did not live to 110 and win his bet against the bank but, from my view down the street, he still won.