Many Americans are nervous that they won’t have enough money to retire comfortably. Longer life expectancies, distrust of financial markets, health care expenses and the uncertainty of many defined benefit plans (pension plans and social security) are all contributing factors.
The stock market has taken so many Americans a roller coaster ride over the last couple decades that many have soured on investing. The retirement nest egg of Americans is woefully low.
According to a study entitled ‘The State of American Retirement’ by the Economic Policy Institute (EPI), nearly half of Americans have no retirement savings at all.1
Looking at a breakdown of the data, the study revealed that just 61% of households with ages between 56 and 61 (fast approaching the eligible age for a reverse mortgage, 62) actually have retirement savings.2 On average, those households have $163,557, which his decent but won’t last too long in retirement, especially with an extended lifespan.3
But a relatively new financial product, called a reverse mortgage, could provide some support for many Americans, especially those approaching retirement. Used responsibly, a reverse mortgage can supplement retirement income and add peace of mind for millions of Americans.
What is a Reverse Mortgage?
A reverse mortgage is a home loan that allows homeowners age 62 and older to borrow against the equity in their homes. The home must be occupied by the borrower and be their primary residence.Upon approval, the funds from a reverse mortgage can be accessed in a couple ways, a one-time, lump sum payment or through regular fixed payments. The borrower must remain living in the home and pay all applicable property taxes and insurance. If not, the loan could be called early.
Tapping the equity in your home is nothing new. We are all too aware of people using their homes as ATMs a decade ago when home equity lines of credit (HELOCs) were readily available.
But reverse mortgages are a bit different. In addition to an age requirement, borrowers don’t have to provide any income requirements or go through any credit checks, although all borrowers are required to attend mandatory debt counseling prior to receiving any loan funds.
The biggest difference- the loan doesn’t need to be repaid until the owner of the home either sells the house or passes away.4 The loan proceeds just get deducted from the equity balance in the home.
Another nice thing is that the borrower can never owe more than the home is worth. And if there is any remaining equity after the loan is repaid, it goes to the borrower or beneficiaries.
Reverse Mortgage Cons
At this point, you may be wondering what the catch is. Here are some negatives regarding a reverse mortgage. The fees associated with reverse mortgages can be quite high, even higher than a traditional mortgage. There are origination fees and closing costs may be worth several percentage points of the home’s value.5 Also, the interest rate is typically variable, so a drastic increase in rates could erode the home’s equity quickly.6
Of course, the way bond yields have been plummeting globally, that seems unlikely. But as competition increases among banks and mortgage companies for reverse mortgages, you should expect to see fees drop.
The addition of the tax-free cash from the loan may disqualify a borrower from needs-based government programs such as Medicare.7 Always check with an accountant or tax professional to determine what the consequences of a reverse mortgage might be.
Finally, while this product is great for those homeowners with positive equity in their homes, it won’t help the more than 3 million Americans who still have negative equity in their homes following the Great Recession.8 For these unfortunate homeowners, there are a number of government programs to improve refinancing options through the Home Affordable Mortgage Program or HAMP.
Reverse mortgages have moved from infomercials to the mainstream. These loans are increasingly being offered at community banks so borrowers feel much more comfortable about the transaction. Some of these banks even have a dedicated loan officer to handle the high demand, some closing on 100 loans per year.9
Considering the Baby Boomer demographic approaching retirement and the roughly $12.5 trillion in equity locked in American homes, there is a tremendous opportunity for community bankers such as loan officers.10
Further, the total amount of U.S. retirement assets is $14 trillion and the financial services industry has been servicing the needs of Americans saving for retirement for years.11 It may not be long before reverse mortgages get pitched to older clients by financial advisors, just as mortgages were a decade ago.
Given everything that occurred during the financial crisis, loan officers have had a volatile past decade to be sure, but it appears that these bankers should enjoy a bright future.