Reverse Mortgages Becoming More Popular

Baby Boomer Couple in Front of HomeIt’s a common story. A retired couple living in Toronto has a home that they purchased in 1985 and paid off years ago. Their home is worth about $1.5 million, but they have only a modest pension, they have been dipping into their meager savings to pay the monthly bills and maintain the house, and they can’t afford a vacation. They could move to an apartment but they love the house and don’t want to give up the family gatherings  that they have always hosted or the back yard that the grandkids play in. So, what can they do?

One option for house rich & income poor baby boomers is a reverse mortgage. The basic idea of a reverse mortgage is to convert some of the equity in the house to cash that can be used to supplement income or to pay for anything the homeowners need or want. The cash can be taken in a lump sum or in periodic payments or any combination of the two. The cash is of course a loan, but payments against the loan aren’t made until the house is sold or the homeowners pass away.

Sounds pretty good, right? The catch is that the interest payments against the loan accumulate, and the magic power of compounding works against the borrower. Interest rates on reverse mortgages are much higher than for conventional mortgages (double or more), and so the remaining equity in the home will decline very quickly as the years pass. It’s very possible that there will be no equity left at all by the time the homeowners pass away, and so nothing for their beneficiaries. On the positive side (if you can call it that), the terms of the loan specify that the balance payable on the loan can never be more than the value of the house.

Because of the compounding interest on the loan, reverse mortgages are extremely expensive and should be viewed as a last resort, when no other options are available or desirable. Despite the obvious disadvantages, however, a reverse mortgage can be a good solution for homeowners who are determined to stay in their home despite limited income. For example, that couple with the $1.5 million home could borrow up to $600,000, take the cash in a lump sum, convert it to an annuity, and have the peace of mind of knowing they can stay in their home with a tax free guaranteed income for as long as they live without risk of the debt ever coming due.

Reverse mortgages are available from Home Equity Bank. They call their product a ‘CHIP Reverse Mortgage’ (it used to be called a Canadian Home Income Plan). To qualify, you must own your home outright or have any existing mortgages paid off by the reverse mortgage, as it must be in first position; and the youngest homeowner must be at least 55. The amount of the loan that you can qualify for will depend on the value of your home as well as your age (the older you are, the more you can qualify for).

As more and more baby boomers reach retirement age with insufficient savings and valuable homes, expect reverse mortgages to keep increasing in popularity.