Wade Pfau Contributor
Professor @ The American College; Principal @ McLean Asset Management full bio →
I’m a Professor of Retirement Income at The American College in Bryn Mawr, PA. I also serve as a Principal and Director for McLean Asset Management, helping to build retirement income solutions for clients. My research article on safe savings rates won the inaugural Journal of Financial Planning Montgomery-Warschauer Editor’s Award, and I actively publish research on retirement topics in a wide variety of academic and practitioner research journals. I also write about retirement income at my Retirement Research blog. I’ve contributed to the curriculum of the Retirement Income Certified Professional (RICP) and the Retirement Management Analyst (RMA) designation programs for financial advisors, and I am a frequent speaker about retirement income at national conferences. I am a CFA charterholder and hold a doctorate in economics from Princeton University.
Using Reverse Mortgages In A Responsible Retirement Income Plan
Though reverse mortgages have long held a bad reputation, research and public policy in recent years are shedding new light on their potential uses in retirement. The vast majority of reverse mortgages in the United States are Home Equity Conversion Mortgage (HECM – commonly pronounced “heck-um”) reverse mortgages, which are regulated and insured through the federal government by the Department of Housing and Urban Development (HUD) and the Federal Housing Authority (FHA).
Especially since 2013, the federal government has been refining regulations for its HECM program in order to improve the sustainability of the underlying mortgage insurance fund, to better protect eligible non-borrowing spouses, and to ensure borrowers have sufficient financial resources to meet their homeowner obligations.
Financial planning research has shown that coordinated use of a reverse mortgage starting earlier in retirement outperforms waiting to open a reverse mortgage as a last resort option once all else has failed.
Reverse mortgages have transitioned from a last resort to a retirement income tool that can be incorporated as part of an overall efficient retirement income plan. Two benefits give opening a reverse mortgage earlier in retirement the potential to improve retirement outcomes, even after accounting for loan costs.
First, coordinating retirement spending from a reverse mortgage reduces strain on the investment portfolio, which helps manage the risk of having to sell assets at a loss after market downturns. Reverse mortgages can help sidestep this risk by providing an alternative source of retirement spending after market declines, creating more opportunity for the portfolio to recover.
The second potential benefit of opening the reverse mortgage early—especially when interest rates are low—is that the principal limit (the overall eligible amount consisting of any loan balance and remaining line of credit) that you can borrow from will continue to grow throughout retirement.
This principal limit growth will almost always allow for greater access to funds later in retirement than if you instead waited to open the reverse mortgage until later when it is first needed. This is one of the most important and confusing aspects of reverse mortgages, and I cannot give the much attention it deserves here, but I explain it in much greater detail in my book on the subject.
If you are thinking about a reverse mortgage, note these eligibility requirements:
- You must be at least sixty-two,
- You must live in an eligible home, and
- You must not have other debt on your home.
Borrowers must also go through a mandatory counseling session about the loan, and a financial assessment to make sure there are sufficient resources to continue meeting home owner obligations.
For those thinking about it, please note that the reverse mortgage should be used as part of a responsible plan. It allows homeowners to borrow against the value of their home, creating liquidity from an otherwise illiquid asset, and grants the flexibility to defer repayment until they have permanently left the home. But if this liquidity creates the temptation to use the proceeds in an unwise manner, then you may be better off avoiding it.
Also, it is important to shop around and talk to different lenders. Reverse mortgage costs vary widely and comparison shopping could save you thousands of dollars. Borrowers need to consider different combinations of upfront costs as well as future interest rates on the loan.
As the government continues to strengthen the rules and regulations for reverse mortgages and new research continues to pave the way with an agnostic view of their role, reverse mortgages may become much more common in the coming years.