A reverse mortgage may sound like a good deal for cash strapped seniors. You can turn some of your home equity into cash without having to sell your house. The money you borrow is tax-free income, and you don’t need to make regular payments on the loan.
Some financial experts advise seniors to avoid reverse mortgages and instead explore other options for retirement income. Before you consider a reverse mortgage it’s important to understand how they work, what fees are involved, and some of the pitfalls to avoid.
What is a reverse mortgage?
A reverse mortgage is a loan designed for homeowners 55 years of age and older. Unlike a traditional mortgage, you don’t make any regular or lump-sum payments. Instead, the interest on your reverse mortgage accumulates, and the equity that you have in your home decreases over time. If you sell your home or it’s no longer considered your principal residence, you must repay the loan plus any interest that has accumulated.
The loan amount can be up to half the current value of your home. However, you must pay off any outstanding loans that are secured by your home with the funds you receive.
You can decide how you want to receive the money. You can choose to receive a lump sum payment or a loan that provides you with a regular stream of income (or a combination of the two).
Related: Consider A Life Annuity
Drawbacks of a reverse mortgage
The biggest disadvantage of a reverse mortgage is that it’s subject to higher interest rates than most other types of mortgages. HomEquity Bank, the only national provider of reverse mortgages to Canadian seniors, currently charges 5.95% for a 5-year fixed term, and 4.95% on a variable rate term.
Another drawback is the equity you hold in your home will decrease as the interest on your reverse mortgage accumulates.
When you die, your estate will have to repay the loan plus interest in full within a limited time frame. The time required to settle an estate can often exceed the time allowed to repay the loan.
Since the principal and interest will be repaid to the lender when you die, there will be less money in your estate to leave to your children or other beneficiaries.
Costs associated with a reverse mortgage can be quite high. They can include:
- higher interest rates than with a traditional mortgage or line of credit
- a home appraisal fee, application fee or closing fees
- repayment penalties for selling your home or moving within three years of obtaining the loan
- fees for independent legal advice
Related: Shopping For Mortgage Rates: Fixed Vs. Variable
Qualifying for the loan
To see if you qualify for a reverse mortgage, a lender will look at the equity you have available in your home. Lenders also look at your age, the location and market value of your home, and current interest rates. Typically, the older you are, the larger the loan you will be able to get.
Final Thoughts
A reverse mortgage may seem like an attractive option for many aging baby boomers who lack the savings needed for a comfortable retirement. However, before choosing to obtain this type of loan you should consider cheaper alternatives.
Using your home equity to secure a different type of loan, like a home equity line of credit, can be a cheaper way to borrow while giving you more flexibility than a reverse mortgage.
Other options include selling your home and buying a smaller one, renting, or moving into assisted living or other alternative housing.
If a close relative left you $1,800,000 you’d spend a lot of time and pay a great deal of attention to the care and management of the inheritance, wouldn’t you?
Well, this is what you can expect to earn during your working years if you average around $500 a week take-home pay for the first 20 years and about $980 a week take-home pay for the last 25 years until retiring at age 65.
You wouldn’t handle a $1,800,000 inheritance haphazardly, with little or no thought. Why treat the earned income any differently?
Related: Choose Your Retirement Date
It’s easy to pay less attention to one’s earned income because it comes in small amounts at frequent intervals, but add it up over a lifetime of earnings and you come up with a substantial sum.
A Lifetime Job
The job of managing your income will be with you all your life. Some do it well and live smoothly and pleasantly, free from money cares and worries. They enjoy the pleasures and satisfactions of a full life.
Others fumble and stumble from one financial mess to the next. They never seem to solve their personal financial problems. Some families can live comfortable and save on an income of $40,000 a year. Others with incomes of $200,000 can’t make ends meet.
Successful Money Management
If there is one thing people are interested in, it’s the subject of handling money successfully – getting the most value out of each dollar and building family financial security.
Obviously it’s not easy to always do the right thing. Using money effectively is one of the biggest problems in the lifetime experience of any family. In fact, various surveys indicate that the major cause of personal financial problems is bad management of personal finances. Other surveys show that money is the greatest single cause of trouble between spouses.
Related: Treating Your Marriage Like A Business (Financially)
Money Management is a Skill
Personal money management is a skill that can be learned, developed with practice and enjoyed like other skills. Most of us work hard for our money. Surely we will want to take the additional effort to see that it is managed and used wisely.
Learning sound approaches to successful money management will help you and your family achieve financial competence and the kind of financial independence that will contribute to better living.
Include the Whole Family
Make it a family effort. By showing each member of the family just what the financial picture is (in an age appropriate way), everyone will know what’s involved and can pitch-in to help. When children participate they learn some important lessons in planning with money.
Related: Kids and Money
Get Value for your Money
Whether you are single and enjoying your first full-time job, an established wage earner or facing retirement, our lifestyles and goals differ. But all of us share the hope that our hard work will pay off. We can’t foresee what will happen in 10 or 20 years from now. Realistic financial planning and getting top value for every dollar can let you achieve the lifestyle you want, now and in the future.
Why don’t you take a few moments to figure out your approximate lifetime earnings? You’ll be surprised.
To be honest, I just fell into my career unexpectedly. After my husband was seriously injured, I applied for a secretarial position at a local bank branch to bring in some much needed money. This “temporary” job lasted for over 25 years when I finally retired as a financial advisor.
I always envied those people who knew what profession they wanted to be in from an early age. I understand wanting to be a firefighter, teacher or pilot, but does anyone actually aspire to become a crime scene cleaner, tour guide or even a civil servant?
Related: Does your job define you?
Parents don’t always know best
Unfortunately, there are a lot of unhappy people that follow their parents’ wishes to become doctors, lawyers and family business managers. Some would much rather work at something else but dutifully follow in their parents’ footsteps.
My father wanted me to become a nurse. He didn’t take into account my extreme squeamishness with any type of illness, injuries or discomfort. I’m also somewhat unsympathetic. “You’ll be fine!” I’d tell my kids, then send them off to school. Absolutely not a good fit.
I thought one of my kids would be a good sportscaster. He knew every stat and piece of trivia in every sport. If only he would have put that kind of attention to his schoolwork. My other child would have made a good politician. He was always big on promises but sadly lacking in follow-up action.
One child is now a super salesperson and marketing expert. I never would have guessed this as a career choice for him when I was buying cases of chocolate covered almonds because he hated selling door-to-door.
These are examples of parents not really knowing their kids’ talents.
Career counselling and job fairs
When I was in the seventh grade, the guidance counselor gave us all career aptitude tests. My test results showed I’d make a good mechanic. In hindsight, given my aptitude for putting pieces together, problem solving and being detail oriented, this was probably not a bad choice for me. But a female mechanic? Unheard of at that time! Needless to say that went nowhere.
I don’t know if schools still do this testing. Do they have career days where someone, sometimes a parent, comes to the classroom and explains the details of their profession? Bring your child to work days are good in a way, but how many kids are really that interested in what their parents do all day?
Various job descriptions should be available to students early on so they know which courses to take to prepare them. It’s somewhat a waste of time and money to prepare for a career only to find there’s no aptitude or interest.
Second time’s the charm
I guess that’s why there are so many abrupt career changes later on. The proliferation of career and life coaches and career books such as What Color is My Parachute? proves that we don’t always get it right the first time. University enrollment by older adults is at an all-time high.
Related: My 20 favourite books on business
Dedicated training or golden opportunity?
Did you specifically train for your particular career? Did it turn out as you expected, or hoped? Did you unexpectedly happen upon a great opportunity? Did you take any old job that was offered to you just to get some money? Or, like me, did you become interested in the career path after you were employed?
Is your occupation interesting or boring? Are you excited to work on your projects or do you dread going into the office Monday mornings? Do you want to keep doing the same work even after the prescribed retirement age? Or are you just sticking it out because you earn a high salary and have good benefits, or to make sure you get your entire pension?
When you spend forty or so years in the workforce you should at least be getting some type of satisfaction from it.
How did you choose your career?