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Reverse Mortgage: Should I count my home equity as a retirement asset?

The balance people owe on their home mortgages shrink, one of the most common questions I receive is: Should I count my home equity as a retirement asset?

The whole decision of where to live at retirement (i.e., the home/locale decision) is an interesting one, and it seems to vary dramatically based on region. In the upper Midwest and Northeast, there is the pull toward warmer climates. On the West Coast-with its expensive real estate, congestion, and high living costs-the pull is toward realizing larger home equities and a move to lower-cost, high-amenity regions. I am always intrigued by articles titled something like “The top 10 places to retire in the United States.” In those articles, it seems that the primary home/locale retirement factors are cost of living and proximity to excellent hospitals, which to me is oversimplified and depressing. A decade ago, with home equity nearly as solid as federally insured bank deposits, the ideal was a two-home solution: continued residence in the old home and the addition of a resort-area home. That ideal seems to be disappearing as home prices have become more volatile and savings interest rates have declined dramatically.

Whether you choose to keep your 12,000-square-foot family homestead in Scottsdale at retirement or sell your current home and reside in a mobile home in central Florida, there are new strategies to consider when thinking about your home equity as a retirement asset. Everyone has heard of reverse mortgages, where a retiree accesses the equity in a home to supplement retirement income. Most consider reverse mortgages a final, desperate strategy to maintain retirement income, one that’s brought about by inadequate retirement savings. At death, the home must be sold to liquidate the mortgage, depriving children of a family home/locale inheritance. Clients who view reverse mortgages as a desirable way to supplement income in retirement are extremely rare.

In a recent article in the Journal of Financial Planning, titled “Standby Reverse Mortgages: A Risk Management Tool for Retirement Distributions,” authors John Salter, Shaun Pfeiffer, and Harold Evensky examine a new way to use home equity in retirement. With increasing life expectancies, higher medical costs, and market volatility, recent retirees can face a daunting challenge in trying to make savings last a lifetime. Enter a new, affordable reverse mortgage tool intended to help further retirement confidence, the Home Equity Conversion Mortgage (HECM) Saver, or “standby reverse mortgage.”

This relatively new reverse mortgage product is more like a line of credit that can be drawn on and repaid with a relatively low interest rate and implementation cost. This product became available in October 2010 for homeowners who were at least 62 years old. The primary difference between a home equity line of credit (HELOC) and a home equity conversion mortgage is the requirement for paying ongoing carrying costs. With the HELOC, interest must be paid monthly whereas in the HECM reverse mortgage, interest merely accrues when draws are outstanding.

The authors present a compelling strategy to lessen the probability of running out of money during a long retirement using this new mortgage product. Their approach is not to supplement retirement income through the traditional reverse mortgage strategy, but to use the standby reverse mortgage as a cash flow tool when bear markets threaten portfolio longevity.

The authors present this approach in terms of two retirement buckets: a lifestyle bucket and a retirement portfolio bucket. Suppose, for example, that it is time to refill your lifestyle cash flow bucket by selling portfolio assets to meet living needs in retirement. During a bear market, the retiree would prefer not to sell portfolio assets at depressed prices to meet living needs. Instead, the authors tested a strategy that calls for meeting retirement lifestyle needs during bear markets by drawing on the standby reverse mortgage. When markets recover, the amounts drawn could be repaid. The authors believe that, through modeling various retirement outcomes, this strategy could greatly improve the likelihood of not running out of money during a long retirement.

It’s likely that your perspective on your desired retirement home has changed in the last decade or may change in the future. As part of the planning updates associated with that change, perhaps you should consider the ability of your home to support your retirement living needs.

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