By Chris Farrell, Next Avenue
The numbers are worrisome. The typical 54- to 64-year-old with a 401(k) or IRA owns a median portfolio worth about $135,000 and more than a quarter of workers don’t have retirement savings accounts (mainly because their employer doesn’t offer one). Is it any surprise older Americans worry their quality of life could deteriorate during retirement?
On the other hand, the homeownership rate for households age 65 and older has risen to 81% and their median home equity is $143,500, according to the Harvard Joint Center for Housing Studies.
All of this raises two key questions: Could tapping that home equity through a reverse mortgage help older Americans attain a financially secure retirement while remaining in their homes? And, if so, given today’s low interest rates, is this a good time to get one?
“For many retirees, home equity represents a significant portion of their wealth,” Shai Akabas, director of economic policy at the Bipartisan Policy Center think tank, said at a Senate Health, Education, Labor and Pensions Committee hearing last spring. “Many of these older Americans can — and will have to — rely on home equity to supplement their Social Security benefits.”
Experts Turning Favorable About Reverse Mortgages
Little wonder that many retirement-research scholars and growing numbers of financial planners like the idea of some homeowners 62 and older using reverse mortgages to turn home equity into income (62 is the minimum age the U.S. government allows).
Yet fewer than 1% of eligible households have taken out a reverse mortgage, according to a Brookings Institution report. Common knocks against these loans: high fees and the notion that only desperate older Americans turn to reverse mortgages, as a last resort.
But given the current quest for greater economic security in retirement, it seems to me that reverse mortgages should be more than a niche product. That’s why I filed away a webinar headline from late last March with the title: “Highly respected economist changes his view of reverse mortgages.”
The convert was Laurence Kotlikoff, a noted Boston University economics professor who’s an expert on personal finance and retirement planning, president of the software-driven personal financial planning company MaxiFi and something of a provocateur. I’ve talked to Kotlikoff over the years and am a fan.
So, I asked him: Are reverse mortgages about to go mainstream?
“I went from not liking them to thinking they aren’t as bad as I thought,” he told me.
But not for long. “Then I looked more carefully with our software, and it got me back to not thinking favorably about reverse mortgages,” Kotlikoff said. “It’s a complicated product to get your brain around. If you couldn’t come up any other option to stay in the home, then use a reverse mortgage.”
What’s Kept Reverse Mortgages From Going Mainstream?
My own view: reverse mortgages, as currently sold, are too complicated to go mainstream.
Before going any further, let me briefly pause to explain how reverse mortgages work.
To qualify for federally backed reverse mortgages known as Home Equity Conversion Mortgages or HECMs (accounting for about 90% of the market), you need to be at least 62, own the property outright or have paid much of the mortgage. You must verify your income, assets and monthly living expenses and show that you can afford to pay ongoing costs of homeownership — homeowners insurance, property taxes and upkeep.
The size of the reverse mortgage you get is determined by a formula that considers your age, the home’s value and interest rates (lately, reverse mortgage rates are hovering around 3.25% to 7% for lump sum, fixed-rate loans and 2% to 5.5% for adjustable loans).
All Reverse Mortgage Inc.
You’ll never owe more than what the house is worth, but fees are substantial, adding up to some 7% — although you can do better by shopping around. You must go through a mandatory counseling session to get a reverse mortgage.
Once qualified, you can take out your equity in a lump sum, a line of credit or monthly payments. Instead of making out-of-pocket repayments, the reverse mortgage gets paid off when you move out or die. (You can lose the home if you fail to keep up with property tax and insurance payments.)
The reverse mortgage business has cleaned itself up quite a bit following bad press and Congressional initiatives in the 1980s. Still, scholars find homeowners aren’t convinced that a reverse mortgage is the way to turn home equity into income.
Why Many Older Homeowners Nix Reverse Mortgages
Many older homeowners prefer to leave their home equity alone as long-term insurance against unexpected expenses like health costs, and instead take out a home equity credit line as needed.
The desire to leave their homes to heirs is especially powerful, too, and the complexity of reverse mortgages is a widely acknowledged deterrent.
What might those better options be?
Kotlikoff’s forthcoming book. “Money Magic: An Economist’s Secrets to More Money, Less Risk, and a Better Life,” lists a number of alternatives, including creating a multigenerational home, earning income by renting out rooms on Airbnb or one of its competitors and downsizing.
Another intriguing alternative is what’s known as a sale-leaseback transaction. That’s finance jargon for selling your home to a company and then renting it back.
A company called Truehold launched a sale-leaseback pilot program in St. Louis in July targeted at older homeowners. Truehold buys the home and the resident rents it back from the company. Like any landlord, Truehold takes care of maintenance and upkeep. The fee for the transaction: 5% of the home’s sales price.
The main attractions are that the owner gets equity out, stays in the home and no longer worries about maintenance. But the company has found some potential customers have been concerned about how Truehold sets a sales price and don’t know current rental rates since many haven’t rented for years, if not decades.
“We know it’s a great option for many, but not right for everyone,” says Nick Machesney, head of product and experience at Truehold.
Machesney hits the right note about both sales leasebacks and reverse mortgages. Some older homeowners may like these offerings; others may prefer downsizing or living in a multigenerational home.
The key isn’t which product is best, but which choice fits well into an overall retirement plan. Fortunately, the ecosystem of tapping into home equity choices is expanding and that could help bolster the financial security of homeowners in retirement.