4 Ways to Improve Retirement with a Reverse Mortgage

As the average life expectancy continues to rise, planning for a retirement spanning 30 to 35 years has become increasingly common. Financial advisors are now tasked with finding strategies that allow clients to maintain financial stability throughout these extended years. One powerful tool that can assist in achieving this goal is a reverse mortgage, particularly the FHA’s Home Equity Conversion Mortgage (HECM), which allows retirees to convert a portion of their home equity into tax-free income.

1. Eliminating a Monthly Mortgage Payment

2. Establish access to Equity as a Tax-Free Supplement to Retirement Income

3. Create an Emergency Fund to Protect Retirement Assets

4. Build a Hedge Against Market Volatility

Reverse Mortgage Basics

A reverse mortgage is a specialized home loan available to homeowners aged 62 or older, allowing them to convert a portion of their home equity into cash without the burden of monthly mortgage payments. The most common reverse mortgage is the FHA-insured HECM, which offers various disbursement options such as a lump sum, line of credit, or monthly payments.

Importantly, borrowers maintain ownership of their home, and upon passing, heirs can either repay or refinance the loan to retain the property, or sell it and keep any remaining equity after the loan balance is settled. As a non-recourse loan, a HECM ensures that the borrower (or their estate) will never owe more than the appraised value of the home, even if the loan balance exceeds the home's market value.

Eliminating a Monthly Mortgage Payment - one of the issues that keeps seniors from retiring from their full-time employment is the persistence of their monthly mortgage payments. Many seniors are entering their mid to late 60’s while still having 5 to 8 to even 10 years of payments remaining on their home mortgage. This monthly mortgage payment is often the obstacle to moving into full-time retirement. One of the most important benefits of a HECM (Home Equity Conversion Mortgage) is the ability to pay-off an original mortgage, establishing a Reverse Mortgage that no longer requires a monthly mortgage payment.*

Establish access to Equity as a Tax-Free Supplement to Retirement Income - Another significant benefit of a Reverse Mortgage is the establishment of a tax-free resource that can supplement your client’s retirement income. With adequate home equity when establishing the Reverse Mortgage, tax-free income can be structured from the Reverse Mortgage, offering a significant advantage over withdrawals from traditional retirement accounts, which may be subject to income tax if withdrawn.

This tax-free cash can be received in multiple ways:

1. Monthly payments, similar to an annuity.

2. A line of credit, accessible as needed for future expenses.

3. A lump-sum payout.

Advisors can guide clients to mix and match these options depending on their evolving financial needs, making it a flexible solution for retirement planning. Importantly, because this income does not count as taxable income, it generally will not affect Social Security benefits or Medicare premiums, providing further tax efficiency.*

Create an Emergency Fund to Protect Retirement Assets - For many financial planners, the line of credit (LOC) option associated with a HECM is one of the most compelling aspects of a reverse mortgage. Unlike a traditional Home Equity Line of Credit (HELOC), the LOC in a reverse mortgage grows over time, as unused credit increases based on the loan’s interest rate. This feature provides a growing pool of available funds for future use, which can be crucial in later retirement years when unexpected expenses such as healthcare or long-term care arise.

The growing LOC offers incredible flexibility - retirees can draw on the credit as needed, converting it into income or a lump sum, or leave it untouched to benefit from the growth feature. This allows retirees to adjust their financial plans over time, ensuring liquidity when needed.

Build a Hedge Against Market Volatility - A reverse mortgage can be an effective tool for mitigating sequence of returns risk, a common challenge in retirement planning when market downturns coincide with the need for portfolio withdrawals. Instead of selling investments at a loss during a market downturn, retirees can use the funds from their reverse mortgage LOC to cover living expenses, giving their investment portfolio time to recover.

Once the market rebounds, they can return to drawing from their portfolio, while the unused portion of the reverse mortgage LOC continues to grow. This flexibility helps preserve retirement assets and reduces the risk of prematurely depleting investment accounts. Voluntary loan repayments can even replenish the LOC for future needs.

Conclusion

For clients facing an extended retirement, a reverse mortgage can offer flexibility, security, and financial support that traditional retirement strategies might not. By unlocking home equity, reverse mortgages allow retirees to improve cash flow, mitigate market risks, and cover essential costs, all while remaining in their homes. However, it is crucial to consult with a financial advisor to understand how a reverse mortgage fits within a comprehensive retirement plan, especially in conjunction with other tax-advantaged accounts and investment strategies.

This article does not constitute tax advice. Clients should consult a tax professional for more information on how a reverse mortgage may impact their specific tax situation.

If you have questions, please contact us at kenk@k2-financial.com / (903) 235-3637