For clients in or nearing retirement, incorporating the nest itself into the investment strategy can enable flexibility and security while simultaneously slowing the drawdown of assets under management. Wrapping an additional source of income not subject to the market fluctuations of invested assets with an FHA insured Home Equity Conversion Mortgage (HECM) can actually shore up the safety of a home and simultaneously extend the life of invested assets.
Coordinated Strategy
The theory and the numerical evidence supporting the use of home equity to extend portfolio longevity has been gaining attention since introduced by Dr. Wade Pfau in 2015 building on the work of Dr. Barry Sacks published in the February 2012 issue of the Journal of Financial Planning. What brings these concepts to the forefront of planning in 2023 is:
- An increase in home equity wealth with a simultaneous decrease in access to alternative funds sources like pensions for the nearly 40% of our population in or nearing retirement
- An increasing number (44%) of retirees carrying a mortgage payment into retirement
- The need for additional tax planning resources to mitigate portfolio erosion as tax deductions diminish during retirement and mandatory distributions create taxable events
- Improved consumer protections to Home Equity Programs introduced in 2015 better supporting surviving spouses and requiring certified financial counseling for all borrowers and associated family members to ensure a full understanding of the terms of the loan
Why Consider a HECM
Capital Preservation
- Appreciating asset –A Home Equity Conversion Mortgage (HECM) provides the homeowner an alternative source of income with no impact on the average 4% annual home’s appreciation
- Avoid unnecessary distributions – volatility is a natural part of investing. Diversification with a HECM adds an additional asset from which to draw income in times of market downturns preserving invested capital
- Fund large or unexpected expenses such as home renovations or medical expenses
- Any unused portion of the line of credit grows at the note rate plus .50%
Tax Sheltered Income
- Non Taxable Income – home equity is a non-taxable source of income
- Delay social security benefits providing an alternative source of cash flow
- Can be paid back and borrowed against as many times as borrower chooses providing tax harvesting advantages
Lifestyle Freedom
- Enable funding of long-term care or life insurance policies
- Allow for aging in place
- Establish an available line of credit for emergencies with no required repayment if exercised
- The line can never be called due unless the borrower fails to pay taxes and insurance, maintain the property and occupy the home at least 6 months annually
- Drawing on the line of credit does not diminish the increasing market value of the asset (the home)
Candidates for a HECM have some or many of the following characteristics:
- Age 62+ (this is not optional although a non-borrowing spouse below age 62 is allowed)*
- Plan to stay in their home a minimum of 5 years or plan to age in place
- Desire a move to a more expensive market and prefer no increase in their monthly mortgage payment or wish to have no mortgage payment
- Seek to delay Social Security benefits
- Divorce situation where one spouse takes over payments or must provide an equity payout in settlement
- A 50% or more equity position in their current home
- Would like a stand-by line of credit that grows
- Could benefit from a non-taxable income source that doesn’t impact Social Security or Medicare benefits
- Looking to offset tax ramifications of Roth Conversions
- Seeking to gift portions of their estate to heirs while still living
* Age requirements vary by state on proprietary, non-FHA retirement programs offering the same non-recourse access to home equity on a growing line of credit with the majority of states supporting a 55+ minimum age. Borrowers remain on title and retain the option to sell the property at any time without penalty. All proceeds in excess of any loan balances are paid directly to the borrower.
Home Equity Conversion Mortgages at Fairway
Fairway has a dedicated retirement lending team focused on the integrity of our offerings. We are licensed to provide all FHA programs with delegated underwriting as well as several private investor options offering access to equity programs for those under the age of 62 in many states.
Case Study Assessments
Assessing candidacy is often best done through financial modeling. I welcome the opportunity to run scenarios and lend insights to any clients seeking to understand more. Educating clients on the value of incorporating home equity as an element of retirement income planning with some simple financial modeling is a great first step. I encourage all clients to work closely with a financial planning professional who can create an overall financial plan.
Additional Resources:
Retirement Lending – An overview of mortgage lending options for those over age 62
Fairway Independent Mortgage Corporation Reverse Lending
Webinar recording: Reverse Mortgage & Retirement Planning with Dan Hultquist and Stephen Resch
Following the closing of a home equity conversion mortgage no further principal or interest payment will be required as long as one borrower occupies the home as their primary residence and adheres to all HUD guidelines of the loan . The borrower must maintain the property, remain current on property taxes, homeowner’s insurance and HOAs if applicable. The above information does not constitute tax or financial advice. Clients should consult a tax and/or financial expert for their specific situation.
