Home Equity – A Good Retirement Solution

Reprinted from Forbes.com June 2017

A recent New York Times article on reverse mortgages published a common error that feeds into negative misconceptions that continue to hinder using home equity as a strategic retirement income source. The New York Times article “Would You Trust Tom Selleck With Your Life Savings?” focused on the role of celebrities endorsing financial products (using AAG’s reverse mortgage ads with Tom Selleck as the backdrop), but lamentably began the article by describing reverse mortgages as “a type of home equity loan (one in which the bank gives you money and takes your house when you die).” This statement is false on its face. Reverse mortgages in the United States are mostly FHA-insured Home Equity Conversion Mortgages (HECMs), which are home equity loans, true, but just like any mortgage, the program requires that the borrower own the home and maintain title up until death or sale. At no time does the bank “own the home.” Additionally, the bank does not automatically take the home upon death. Not only is the New York Time’s statement wrong, it also perpetuates a harmful and damaging common misconception about reverse mortgages.

One thing that the New York Times article did get correct is that for many Americans, their home equity is their life savings. For the average retiring American couple, home equity represents about two-thirds of their total net assets, according to 2011 U.S. Census data. More specifically, the median net worth for married couples age 65 and older is $284,790. Of this amount, $192,552 is in home equity. The remaining $92,238 is in non-equity assets, including IRAs, other savings, and personal property. Clearly, Americans need to include home equity and consider reverse mortgages as part of their retirement income strategy. Anything short of at least considering how to use home equity as a retirement asset is a failure in planning. Home equity is just too important for Americans, and reverse mortgages can be an effective way to improve a retiree’s overall retirement security, and not inconsequentially, their peace of mind.

Financial advisors, policy makers, and academics are slowly starting to embrace the importance of home equity and reverse mortgages in retirement planning. For instance, in 2016, the Bipartisan Policy Center Commission on Retirement Security and Personal Savings recommended facilitation of home equity use in retirement. Recognizing that retirees are dependent on lender ads and/or media coverage for information, the Commission calls for greater outreach from FHA to help retirees understand how best to use this asset. Furthermore, the report advocates for improved collaboration among government agencies to work toward a coherent policy for housing use in retirement. With media treatment like the New York Times article, Thomas C.B. Davison, PhD, CFP, a respected researcher and a member of the Funding Longevity Task Force, which focuses on proper usage of reverse mortgages, concludes that “ironically the New York Time’s author also includes a quote about older adults, ‘They’ve been through so much, so they do more due diligence than the younger generation.’ Hopefully reading the New York Times is not key to their due diligence.” Until public policy has improved, media outlets will continue to be a significant source of information, or misinformation, on the Home Equity Conversion Mortgage.

This is important because public understanding is less than adequate. Recent research published in the Journal of Financial Planning, The Effect of Low Reverse Mortgage Literacy on Usage of Home Equity In Retirement Income Plans, detailed a number of common reverse mortgage misconceptions and demonstrated how low literacy rates impact effective usage of home equity in a retirement plan. Only 30 percent of respondents could pass a basic 10-question reverse mortgage literacy quiz. The research also showed that those who better understood reverse mortgages were more likely to consider home equity as a strategic asset in retirement. The research illustrated that many respondents did not understand what happened to the mortgage at the homeowner’s death. The truth is that a reverse mortgage loan becomes due when the homeowner stops using the home as the principal residence. At death, the bank does not “get the home.” The homeowner owes the debt, just like with any other mortgage. However, there are cases in which the remaining home value may not equal the debt. Because the reverse mortgage is non-recourse, the estate cannot owe more than the value of the house. The estate simply decides to either pay off the loan from other sources and keep the house, or to relinquish the house.

It cannot be overstated that a homeowner keeps title in a reverse mortgage, that the homeowner can never owe more than the value of the home, and that the heirs have the right to keep the home. A reverse mortgage, while it is a complicated product in some ways, can be easily explained as a slightly more expensive traditional mortgage in which you have the flexibility to make voluntary monthly payments, or to not make payments at all until the last homeowner dies, moves, or sells the house. Current retirement security research confirms that a reverse mortgage can provide an influx of cash flow to meet longevity challenges, market volatility, and other health and property threats during the retirement years.

Reporters and consumers both can access research from experts like John Salter, PhD from Texas Tech, Wade Pfau, PhD, a professor and prolific researcher at The American College of Financial Services, and Barry Sacks, J.D., Harvard Law and PhD from MIT. These scholars have shown that strategic use of reverse mortgages can improve a retirement income plan significantly. Reverse mortgages can be used to improve cash flow, help defer Social Security benefits, and improve retirement portfolio sustainable withdrawal rates. Reverse mortgages also offer a lot of flexibility to retirees. The product can be established as a line of credit, a lump sum payment, tenure payments, or a mix of these options. The variety of distribution plans and lack of a prescribed payment schedule can fill different needs for different situations. All of them allow homeowners to tap safely into their home equity.

The reality is that a properly used reverse mortgage can be a retiree’s saving grace. Misconceptions about the product, however, are still commonplace, which is hindering better coordination of home equity into comprehensive retirement planning. In the end, reverse mortgages are not for everyone as they are still a form of borrowing with some costs and risks, but when used properly they can improve the retirement of many Americans. Better and accurate media reporting on reverse mortgages is needed to improve perceptions and knowledge on reverse mortgages to ensure that people do not ignore a strategy that could improve their finances and quality of life. As Marguerita Cheng, CFP, the CEO of Blue Ocean Global Wealth, notes, “It’s challenging for advisors to help their clients make good financial decisions when they don’t have objective information.”