Reverse Mortgage Payment Plan Options

It’s not uncommon for people to underestimate how much cash they’ll need to fund retirement, and, consequently, find themselves on pace to outlive their savings. While there are numerous ways to improve your cash flow even after you leave the workforce—especially if you’ve built up significant equity in your home—this post zeros in on one such option: reverse mortgages. More specifically, we’ll pay particular attention to the various types of reverse mortgage payment plans typically available.

Understanding reverse mortgages

A reverse mortgage is a loan that allows homeowners to convert a portion of their home equity into cash. Unlike a traditional mortgage wherein the borrower makes monthly payments to the lender, the lender actually makes payments to the borrower: which is precisely how these types of loans—reverse mortgages—earned their name. There are various types of reverse mortgages, including:

• Home equity conversion mortgages (HECM): issued by the US Federal Government, they’re the most common reverse mortgage with no limitations on how to use the loan; you can do whatever you want with the money in the bank, but loan amounts are limited.

• Proprietary reverse mortgage: issued by private lenders, you can again (typically) use this money for any purpose. As it’s the private sector, loan amounts and interest rates tend to rise above those for HECM loans.

• Single-purpose reverse mortgage: These loans, offered by nonprofits and some local/state governments, are designed to fund only one purpose as specified by the lender. They aren’t federally insured, so lenders don’t need to charge mortgage insurance premiums. These types of loans, however, typically reflect smaller dollar amounts than other types of reverse mortgages.

When a reverse mortgage often makes sense

For a retired couple, healthcare expenses alone can top out at $315,000 (according to Fidelity); and that doesn’t even include long-term care! Add in housing, transportation, food, and utility expenses, and retirement costs accumulate quickly. In fact, the average retiree household (led by someone age 65+) spends $57,818 annually according to the most recent Bureau of Labor Statistics (BLS) data. That said, a reverse mortgage is sometimes a viable option if you’re struggling to keep up with these expenses during retirement.

Types of reverse mortgage payment plans

Akin to a regular mortgage, anyone interested in a reverse mortgage must apply, receive approval from a lender, and pay for closing costs. Once approved, you can receive funds—tax-free—in a variety of ways we’ll outline below (based on home equity conversion mortgages, the most common reverse mortgage type).

Tenure payment plan
A tenure payment plan provides equal payments each month for as long as the borrower (or one of the borrowers) occupies the residence. Monthly payments are calculated on the assumption that the borrower will live to see 100, though payments continue for any centenarians out there.

If you believe you’ll live in your home for a long time and want a stable monthly income, a tenure payment plan can make sense. They’re less suitable for homeowners who have a big bill they want to pay off, however, as the value of the loan is divided over many years (meaning smaller monthly payments). Similarly, while monthly payments for life may sound appealing, remember that they’ll stop if you need to move out of the home (e.g., and into a nursing home).

Term payment plan
Term payment plans also provide monthly payments, but unlike tenure payment plans, the entirety of the loan is paid over a set period (e.g., 10–15 years). If you have a clear idea about how long you’ll live on your property, this option may make sense.

Term payment plans have a higher monthly payout than tenure payment plans, which can translate to a better quality of life. Plus, you can remain in your home even after the loan term comes to an end, provided you continue to meet the loan conditions (e.g., paying your property taxes, etc.). The downside, however, is that this loan payment type isn’t “income for life”; if you deplete too much equity, fail to budget correctly, and/or live longer than you expect, you may run into financial turmoil.

Line of credit payment plan
Line of credit payment plans are the most flexible reverse mortgage payment plans out there, basically providing a line of credit you can draw upon whenever you like—so long as you stay below the principal limit. They’re well-suited for people who value—or simply need—a lot of flexibility. For example, you can withdraw a huge lump sum to pay off a debt and then use the line of credit to meet everyday expenses. There are no minimum withdrawals either, meaning you can just save the money until you believe you’ll need it. You also only pay interest on the money you actually borrow.

The downside, however, is that you can quickly burn through the money as you can withdraw up to 60% of your limit in the first year and the remaining 40% in the second year.

Modified tenure plan
Modified tenure plans marry tenure plan benefits and line of credit payment plan flexibility; monthly payments are lower than that of the former, while the line of credit is lower than that of the latter. However, the total amount of funds available remains the same but is split between two different pots.

Though this option gives you the comfort of monthly payments (until you’re 100) and the freedom to draw more if needed, the downside is that an upper limit exists with respect to how much you can withdraw at one time—so it’s perhaps not suitable if you need a large sum of cash immediately.

Modified term plan
A modified term plan—fusing term payment and line of credit payment plans—will provide you with a monthly sum for a predetermined amount of time (e.g., 5–10 years) and access to a line of credit. Both the monthly payments and the line of credit amounts are lower than those of equivalent standalone plans, but the total sum of cash is the same.

You’ll enjoy access to line of credit funds even after the term payment plan ceases, provided you haven’t exhausted all of it. If you have, you may find yourself in financial trouble after monthly payments end.

Lump sum payments
The final option is to take a lump sum payment, giving you the entirety of the loan amount immediately to use for any purpose. Homeowners who need to make a large, single payment often take advantage of this payment option (e.g., those with a large mortgage balance they want or need to pay off right away).

This payment type comes with some significant downsides, however. First and foremost, you can generally only receive 60% of your limit—and you can’t borrow against the remaining 40% in home equity at any stage. It can be easy to squander the lump sum payment, too, making it risky for people with poor financial habits. That being said, however, retaining 40% equity in your home is sometimes useful should you decide to sell it.

In sum: how to choose the right reverse mortgage payment plan

Multiple mortgage payment options exist for a very good reason: people have different needs, meaning what’s right for one person will be wrong for another. If you decide that a reverse mortgage is right for you—though most people find that it’s not—you’ll need to think carefully about how to receive funds to ensure you won’t run out of money in retirement.

If you need additional help understanding if reverse mortgages are right for you (and, if so, which payment options are best), don’t hesitate to get in touch with our team here at Vision Retirement.

FAQs

• How can I qualify for a reverse mortgage?

  Not everyone can take out a reverse mortgage loan. Typical qualification requirements include the following provisions:

  · You must be at least 62 years of age

  · The home must be your primary residence

  · You can’t be delinquent on any federal debt

  · Your home must be in good condition (i.e., per specific property standards)

  · Although the amount varies by lender, you must typically have at least 50% equity in your home

  While reverse mortgages don’t feature a minimum credit score requirement, lenders do consider debt history as part of the approval process.

• How and when is my loan balance due on a reverse mortgage?

  Reverse mortgages don’t require any loan payments to the lender, although this is still an option. Instead, the entire loan balance (principal plus interest) is due when you sell your home, when the home is no longer your primary residence, or when you pass away (with heirs then assuming this responsibility). If the co-borrower is your spouse, you generally don’t need to pay back reverse mortgage loans until both parties sell, change their primary residence, or pass away.

• Can I run out of money with a reverse mortgage?

  Yes, the amount of borrowed funds can dry up in this case. However, you can in fact remain in your home should this happen—provided you continue to live there, maintain it, and stay current on required taxes and insurance.

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Vision Retirement is an independent registered advisor (RIA) firm headquartered in Ridgewood, New Jersey. Launched in 2006 to better help people prepare for retirement and feel more confident in their decision-making, our firm’s mission is to provide clients with clarity and guidance so they can enjoy a comfortable and stress-free retirement. To schedule a no-obligation consultation with one of our financial advisors, please click here.

Disclosures:
This document is a summary only and not intended to provide specific advice or recommendations for any individual or business.