Highest and Best Use For a Reverse Mortgage

How to Get the Highest and Best Use From a Reverse Mortgage

Most people think about getting a reverse mortgage when they need money.
I believe that thinking is backwards.

For many financially secure homeowners, the highest and best use of a reverse mortgage
may be to establish it before you need the money and then strategically incorporate your
home equity into your overall retirement plan.

You probably wouldn’t wait until you desperately needed money to start contributing to a
401(k). You wouldn’t wait for a medical crisis to buy insurance. And you don’t necessarily
need to wait for a financial crisis to establish access to your home equity.
A reverse mortgage can turn an otherwise illiquid asset—your home equity—into a flexible
financial resource that can complement your 401(k), IRA, Roth IRA, Social Security,
savings, insurance, and other retirement assets.

Here are 10 ways to get the highest and best use from it.
1. Get a Reverse Mortgage as Early as You Can
This is one of the most important concepts.
A proprietary or jumbo reverse mortgage can be available beginning at age 55, while an
FHA-insured Home Equity Conversion Mortgage (HECM) begins at age 62. Product
availability and age requirements for proprietary programs can vary by lender and state.

Why consider establishing one as early as you’re eligible?
Time.

With an adjustable-rate HECM, unused line-of-credit borrowing capacity can grow over
time. The earlier you establish it, the longer that potential growth has to work.
Someone who establishes a HECM at 62 and leaves a significant portion of the line unused
may have substantially more borrowing capacity later in retirement than someone who
waits until 72 or 75 to establish the loan.

Don’t wait until it’s raining to buy the umbrella.
Establishing access to home equity while you’re financially strong can give you options
when circumstances change.

2. Put Your Home Equity to Work
Think about your retirement balance sheet.
You may have money in:

• A 401(k)
• Traditional IRA
• Roth IRA
• Brokerage account
• Savings
• Real estate
• Your primary residence

We expect our investment assets to produce a return.
But what about $500,000, $750,000, or $1 million of equity sitting inside a free-and-clear
home?
Your home may appreciate, but that appreciation generally occurs whether the property is
financed or owned free and clear. The equity itself does not earn a separate investment
return simply because it is equity.
That’s an important distinction.

A homeowner could have $1 million of net worth sitting inside a $1 million free-and-clear
home, yet that equity isn’t producing spendable cash flow.
A HECM line of credit can change how that portion of your balance sheet functions.
Instead of leaving all of your equity inaccessible, you can establish a line of credit and
potentially allow the unused borrowing capacity to grow.

If, for example, the applicable line-of-credit growth rate were approximately 6%, the
available borrowing capacity could increase at approximately that rate, subject to the
terms of the loan.

And because that growth builds on the previous available amount, the effect compounds
over time.

Importantly, this isn’t a 6% investment return and the lender isn’t depositing 6% interest
into an account for you. Rather, your future borrowing capacity is increasing.
That distinction makes the strategy both accurate and powerful.

3. Understand the Power of Compounding
Compound growth becomes increasingly powerful with time.
If something grows at 6% annually, $100,000 doesn’t simply increase by $6,000 every year.
The next year’s growth is calculated on the larger amount.

For illustration:
$100,000 growing at 6% becomes approximately $106,000 after one year.
After 10 years, the mathematical equivalent is approximately $179,000.
After 20 years, approximately $321,000.

That demonstrates why time matters so much.
With a HECM line of credit, the actual growth calculation is governed by the loan terms and
prevailing rates, so it won’t necessarily remain at 6%. But the underlying principle is
important:
Establishing the line earlier gives unused borrowing capacity more time to potentially
grow.
This can make a HECM established at age 62 significantly different from one established
much later in retirement.

4. Pay Down the Reverse Mortgage and Restore Your Line of Credit
Here’s another feature many homeowners don’t realize exists.
You can make payments on a reverse mortgage.
There is no prepayment penalty on a HECM.
When payments reduce the outstanding balance, they can restore borrowing capacity to
the available line of credit, subject to the loan’s terms and limits.
So imagine that you draw $25,000 from your HECM line of credit.
Later, your financial circumstances change and you decide to pay $10,000 back toward the
loan.
That payment reduces what you owe, and the applicable amount can become available to
borrow again.

In practical terms, you’re not simply sending money into a black hole.
You can borrow when you need money, repay principal when you have excess cash,
and potentially access that borrowing capacity again later.
That’s an extraordinarily flexible feature for retirement cash-flow management.

5. Establish an Emergency Fund You Don’t Have to Fully Fund With Cash
How much money should a retiree keep sitting in cash?
$25,000?
$50,000?
$100,000?
Everyone’s situation is different, but there’s a cost associated with maintaining excessive
amounts of cash for years simply because you might need it someday.
A HECM line of credit can provide another source of emergency liquidity.
You could potentially access home equity for:
A new roof.
A furnace or air conditioner.
Medical expenses.
Home modifications.
A vehicle.
Long-term care needs.
Helping a child or grandchild.
An unexpected tax bill.
Or almost any other financial need.
Instead of having every potential emergency funded entirely with cash, your home equity
can become another financial reservoir.

6. Don’t Sell Investments After the Market Falls
This is where reverse-mortgage planning gets especially interesting.
Imagine you’re retired and normally withdraw $60,000 annually from your investment
portfolio.

Then the stock market drops 25%.
You still need income.

If you sell investments after the decline, you’re selling more shares at depressed prices.
Those shares are no longer there to participate when the market recovers.
This is sequence-of-returns risk, and it can significantly affect how long a retirement
portfolio lasts.
Retirement researcher Dr. Wade Pfau has studied the strategic use of home equity and
reverse mortgages as part of retirement-income planning.

One strategy is straightforward:
During normal or strong markets, take your planned distributions from your investment
portfolio.

After a significant market decline, consider temporarily taking money from your
reverse-mortgage line of credit instead.
That gives your investments time to potentially recover rather than forcing you to sell them
when they’re down.

When markets recover, you can return to your normal withdrawal strategy.
This doesn’t guarantee better results, but research into coordinated reverse-mortgage
strategies has demonstrated that intelligently incorporating home equity into retirement income planning can help mitigate sequence-of-returns risk and may improve portfolio
longevity under certain circumstances.

That’s a very different conversation from:
“I ran out of money, so now I need a reverse mortgage.”
This is strategic retirement planning.

7. Use Your Reverse Mortgage to Help Fund Life Insurance With Living Benefits
Here’s another strategy worth considering.
One of the largest financial risks facing retirees isn’t simply running out of income.
It’s encountering a major health event that requires significant amounts of money.
Depending on age, health, insurability, policy structure, and financial objectives, reverse mortgage proceeds could potentially be used to help fund a properly designed life
insurance policy that includes living-benefit riders.

Certain policies may provide accelerated access to a portion of the death benefit following
qualifying chronic, critical, or terminal illnesses, depending on the policy and rider.
Think about the broader strategy.
We insure our homes.
We insure our cars.
We insure our health.

Why not evaluate whether it makes sense to insure against some of the financial
consequences of a serious health event?

Rather than self-insuring every potential expense entirely from retirement assets and your
estate, an appropriately structured insurance strategy may allow you to transfer some of
that financial risk to an insurance company.

And there can be another benefit.
If the insurance isn’t needed for qualifying living benefits, the remaining death benefit may
ultimately provide money for your spouse, children, grandchildren, favorite charity, or other
beneficiaries, subject to the policy terms.

In other words, you’re evaluating whether some home equity can be repositioned to
accomplish multiple objectives:
Liquidity today. Protection during retirement. Legacy tomorrow.
Life insurance isn’t appropriate for everyone, and eligibility, premiums, rider availability,
benefits, and tax treatment vary significantly. This strategy should be evaluated with
qualified insurance, tax, and financial professionals.

8. Take Advantage of Optional Monthly Principal-and-Interest Payments
This may be the greatest advantage of all:
You control the cash flow.
With a traditional mortgage, the lender tells you what payment you must make every
month.
With a HECM, there is generally no required monthly principal-and-interest mortgage
payment as long as you continue meeting the loan obligations.

You can:
Make no principal-and-interest payment.
Make a partial payment.
Pay the accrued interest.
Pay additional principal.
Or pay the loan down substantially.
You decide.

You must continue paying property taxes, homeowners insurance, applicable HOA
charges, maintain the home, occupy it as your principal residence, and comply with the
other loan requirements.
But the principal-and-interest payment is optional.
That’s financial flexibility.

During a strong financial year, make payments if that fits your strategy.
During a difficult year, don’t.
When the market falls, preserve your investments.
When cash flow is strong, reduce the reverse-mortgage balance.
The mortgage adjusts to your retirement plan instead of forcing your retirement plan to
adjust to the mortgage.

9. Potentially Create a Mortgage-Interest Tax Deduction
There’s another potential planning opportunity for borrowers who choose to make
payments.
Reverse-mortgage interest that accrues onto the loan balance generally isn’t deductible
merely because it accrued.

However, when a borrower actually pays qualifying mortgage interest, some or all of it
may potentially be deductible, depending on IRS requirements—including how the
borrowed funds were used and whether the borrower itemizes deductions.
For example, interest associated with qualifying acquisition indebtedness—generally funds
used to buy, build, or substantially improve the home securing the debt—may receive
different tax treatment from money borrowed for other purposes.
If you pay $600 or more in reportable mortgage interest during the year, the lender will
generally provide Form 1098. But the $600 threshold itself doesn’t create the deduction.

The real planning opportunity is that a reverse-mortgage borrower has the flexibility to
make payments, which may create tax-planning opportunities when those payments
include otherwise deductible mortgage interest.
Always review this strategy with your CPA or tax advisor.

10. Think of Your Home as Part of Your Retirement Portfolio
For decades, retirement planning largely focused on three things:
Social Security.
Pensions.
Investments.
But for millions of Americans, one of their largest assets isn’t in their 401(k).
It’s their home.
If you have:
$800,000 in investments,
$2,500 per month of Social Security,
and a $900,000 free-and-clear home,
why would you develop a sophisticated strategy for the first two assets while completely
ignoring the third?
Your home equity should at least be part of the conversation.
It doesn’t mean you should spend it.
It doesn’t mean everyone should get a reverse mortgage.
And it certainly doesn’t mean you should borrow money simply because you can.
It means your home equity is an asset, and assets should have a purpose.
The Highest Use of a Reverse Mortgage Is Optionality
That’s ultimately what makes a reverse mortgage different.
It gives you choices.

Establish the reverse mortgage early.
Allow unused line-of-credit borrowing capacity to potentially grow.
Use it as an emergency reserve.
Use it when investment markets are down.
Use it for home improvements.
Use it to supplement retirement income.
Potentially use it as part of an insurance and legacy strategy.
Borrow when necessary.
Make payments when advantageous.
And potentially restore borrowing capacity for future use.
You don’t necessarily need to choose one strategy.

The power is having the options available when you need them.
So instead of asking:
“When will I need a reverse mortgage?”
Consider asking:
“How could I strategically use my home equity to make the rest of my retirement plan
stronger?”
That’s an entirely different question.

And for the right homeowner, it can lead to an entirely different retirement.

Important: Reverse mortgages are loans and involve costs and accrued interest. Borrowers
remain responsible for property taxes, homeowners insurance, home maintenance,
applicable HOA charges, and compliance with loan terms. Proprietary reverse-mortgage
features, minimum ages, and availability vary by lender and state. HECM line-of-credit growth represents increased borrowing capacity, not interest earned or investment returns.
Life-insurance benefits, riders, costs, eligibility, and tax consequences vary by policy and
individual circumstances. This material is educational and is not tax, legal, insurance, or
investment advice. Consult the appropriate professionals regarding your individual
situation.