As retirement looms, individuals must transition from an accumulation and asset-centric mindset to one focused on income and reliable cash flow. This shift from savings to decumulation is often discussed mostly in terms of 401(k)s and IRAs, but it really applies across asset classes and account types – including one’s primary residence. For many Americans, their home will represent not only their largest asset in retirement but also their largest expense. According to a 2023 report by Pew Research Center, the typical homeowner had roughly $174,000 in home equity and retirement accounts valued around $76,000. Despite being retirees’ largest asset, it also remains their largest expense, totaling 35% of retirement expenses at about $18,000 a year. Furthermore, a Harvard study revealed that more people are retiring now with a mortgage than ever before, adding to the significance of this issue.
In this shift, home equity emerges as a potent yet often overlooked resource for ensuring financial stability during retirement but also represents itself as a critical retirement cash outflow to be managed. Recent research conducted by WSFS Mortgage and released in March 2024 sheds light on the potential of reverse mortgages as a tool to tap into this home equity to generate retirement income or as a way to turn off that cash outflow facing so many retirees with an existing traditional mortgage payment. The WSFS research also highlighted the need for greater education on reverse mortgages and understanding the strategic uses of home equity in retirement. This article explores the findings of the study and offers insights into leveraging home equity for sustainable retirement income.
Understanding the Potential of Reverse Mortgages:
The WSFS Mortgage study surveyed 750 homeowners aged 60 years or older, revealing significant misconceptions and limited awareness surrounding reverse mortgages. Despite their potential to provide essential cash flow and financial freedom in retirement, many respondents lacked familiarity with these instruments. Only 7% considered themselves very knowledgeable about reverse mortgages, while 31% admitted to having no knowledge at all.
Jeffrey M. Ruben, President of WSFS Mortgage, emphasizes the evolving role of reverse mortgages in retirement planning, stating, “Reverse mortgages have undergone significant changes… [they] could be a good option for those seeking to strengthen their cash flow in retirement.” However, the study underscores the need for improved education on reverse mortgages and understanding of the products and strategies. Furthermore, Americans do not score well when tested about reverse mortgage basics, scoring on average 48%, with nearly 10 percent unable to answer a single question correctly.
Properly leveraging any product, especially a financial tool like a reverse mortgage, is challenging when it is not well understood. In order to get a reverse mortgage, HUD requires the homeowner to go through counseling to gauge a basic understanding of the product. However, more education is clearly needed.
With increased knowledge, respondents gained a better understanding of how home equity and reverse mortgages could support a retirement income plan. For instance, homeowners with knowledge of reverse mortgages agreed “the right use of the product can provide needed cash flow (76%) and more financial freedom (62%) in retirement, help cover expenses like long-term care (61%), and allow them to stay in their home longer (79%).” Additionally, among those who would consider taking out a reverse mortgage, the top reasons were “covering home improvements (32%), supplementing regular income (32%), and help covering daily living expenses (30%).” While reverse mortgages or other strategic uses of home equity can improve a retirement cash flow picture, they must be used in coordination with an overall financial plan.
Strategic Approaches to Utilizing Home Equity in Retirement:
- Reverse Mortgage Refinance: One use of a reverse mortgage that is popular today is a cash flow management technique. By refinancing an existing mortgage with a reverse mortgage, retirees can access their home equity without the burden of monthly payments, thus bolstering their cash flow during retirement. Instead of making a monthly payment to your mortgage company, you can refinance an existing mortgage into a reverse mortgage. Instead of having a monthly payment, the reverse mortgage debt will grow. However, the homeowner can stay in the home their whole life, even if the debt exceeds the value of the house, and since reverse mortgages are non-recourse loans, the homeowner can never owe more than the value of the home.
- Reverse Mortgage Line of Credit: The reverse mortgage line of credit has likely received the most interest from the financial planning community over the past ten years. This option offers retirees a flexible source of funds, allowing them to draw upon their home equity as needed, providing a safety net for unexpected expenses, or supplementing regular income. Research has shown that by strategically utilizing a reverse mortgage line of credit during down market years, it can help make a retirement income portfolio more sustainable over time.
- HECM for Purchase: The Home Equity Conversion Mortgage (HECM) for Purchase program enables retirees to downsize or relocate without depleting their savings, leveraging their home equity to finance a new property purchase. Consider this as purchasing a new home in retirement using a reverse mortgage. Often this requires at least a 50% down payment, but you can finance the other half of the mortgage with a reverse mortgage instead of paying 100% down or taking out a traditional mortgage that will require monthly payments. Ultimately, this again functions as a retirement income cash flow solution.
- Downsizing: Perhaps the most popular retirement income strategy involving one’s home revolves around selling one’s home. Selling a larger or more expensive property and purchasing a smaller or less expensive property allows retirees to unlock trapped equity, reduce ongoing expenses, and simplify their living arrangements, all while generating a lump sum of cash for retirement. Even if someone decides to downsize to a smaller but similarly priced home, it could be in an area with better healthcare coverage, weather, lower taxes, or other features that reduce the cost of living.
- Home Sharing: This is not an incredibly popular strategy today, but it has grown in popularity recently. Renting out a portion of one’s property can provide additional income during retirement, effectively monetizing unused space and maximizing the value of home equity. However, you should be careful with this strategy as you are bringing someone into your house. Making sure they are a good fit to live with you and can make rent payments is crucial.
Most people have heard the phrase ‘location, location, location’ when buying a home, or that the American dream is to own a home outright. These both function well in the savings and accumulation phase of life. But the reality is that retirees, especially those with mortgages, need to shift their focus from property location and paying down debt on a home to cash flow and maximizing leverage in retirement. Home equity has emerged as a valuable asset for securing financial stability in retirement when used effectively. However, more education and a better understanding of the products and strategies are needed. Work with a professional and knowledgeable financial planner and banker to help you through these questions and planning phases. Through strategic utilization of reverse mortgages and other home equity solutions, individuals can unlock trapped wealth and create a sustainable income stream for their golden years. By embracing these strategies and working closely with financial advisors, retirees can navigate retirement with confidence and peace of mind.
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