Increasingly more and more individuals are using a reverse mortgage in their old age to decrease their expenses or to increase the available budget. There are several uses and structures of a reverse mortgage. With seniors controlling close to $4T of home equity in the US it’s no wonder this program is now widely used as a retirement planning tool.
Home equity conversion mortgages can be used to eliminate mortgage payments or provide a line of credit to be used for emergencies and also for tenure payments where the equity in the house is used to get a fixed monthly payment.
An investment in a home is by far the biggest investment for any household. Using this asset judiciously can provide a means to maintain a good standard of living and also can serve as a buffer for emergency requirements.
Let us look at a couple of scenarios where reverse mortgage is used to help pay off the mortgage:
Reverse mortgage at an early stage: The earliest possible age when reverse mortgage can be taken is 62 years. Ben and Jennifer Smith are 64 and 63 years old. Both of them have been married for the past 35 years. They took a 30 year fixed mortgage when Ben was 34 years old. However, they had to refinance the loan 15 years back to meet medical emergency for Jennifer and convert it into a term loan of another 30-year period. They took a new mortgage of $180,000 when they refinanced their house.
Currently, they owe $122,646 on their house that has a value of $300,000. They are paying $966.28/month towards mortgage payments. By using the equity in their house, they wish to eliminate this payment. They both have retired and have had a long career. Their future plan is to retire in the same house and be able to live a simple retired life. They have sufficient retirement kitty and also can look forward to decent social security payments.
The financial calculation for the reverse mortgage for this couple is:
|1||Interest rate index0.16%||LIBOR 1 month Rate|
|2||Plus lender’s margin2.50%||Margin taken by the lender|
|3||Initial loan interest rate2.66%|
|4||Plus mortgage insurance||1.25%||1.25% Margin of the FHA which is insuring the entire program|
|5||Initial total loan rate||3.91%|
|6||Initial credit line growth rate||3.98%|
|7||Lifetime cap on loan rate||12.66%||Maximum interest rate within this program|
|8||HECM Expected Rate||5.01%|
|9||Monthly Service Fee||$0.00|
|10||Value of the home$300,000|
|11||Home value limit||$625,500||Maximum value to which the home value will be considered|
|12||Lesser of limit or home value||$300,000|
|13||Loan principal limit||$159,000|
|14||Less Service fee set-aside||$0|
|15||Available principal limit||$159,000||Principal amount available for use|
|16||Less Financed Items|
|17||Loan origination fee||$5,000|
|19||Other closing costs||$2,407.75||Fees attached with the program|
|20||Net Principal Limit||$144,092||Final Principal available|
|21||Less Lump-Sum Cash||$122,646||Cash provided for removing the first mortgage and eliminating the payments|
|22||Fixed-Rate Unusable Funds||$0.00|
|23||Less Selected Credit line$21,446.00 Line of credit available to the couple|
|24||Available In First Year$15,900||Amount available in the first year|
|25||Left for monthly advance||$0|
|27||No more lien payments||0|
|28||Increase in monthly cash||$0.00|
|30||Total Fees & Costs$14,908||Total fees and cost involved in taking the loan|
Cash payment of $122,646 is forwarded to the couple for payment towards a mortgage. This will eliminate their monthly payments of $966.28 or $11,595.36 per year. This is a huge relief for any retired couple. Besides this, the couple is also able to have a line of credit that can be used in future emergencies. This line of credit is $21,446 which can be used anytime in the future. If it is left unused for the next few years, it will increase according to the interest rate used by the bank.
The only issue in this program can be the high fees and costs attached to it. The couple ends up paying $14,908 as fees for removing a mortgage debt of $122,646. That is 12.15% additional amount spent on fees for a reverse mortgage. However on the flip side the couple can save a huge amount on the interest payments. The total interest payments for the next 15 years will add up to $52,763.11.
This gives a benefit of $52,763.11-$14,908 = $37,855.11 by using this program. Obviously the bigger benefit is that the couple in their older age will be able to have more money available for their monthly budget and will not have to worry about mortgage payments.
Reverse mortgage for eliminating second mortgage: Harry and Jane own a house that is currently valued at $140,000. The couple is currently 65 and 63 years old respectively. They have completed their first mortgage however ten years back they took $50,000 second mortgage on their house. The term period for this loan is 20 years that leaves another ten years of payment left. The current payment is $329.98/month. They wish to take a monthly tenure payment for the remaining amount of equity in their house. The couple owes $31,310 on the second mortgage.
The financial calculation for the couple is:
|20||Net Principal Limit||$68,588||Final Principal available|
|21||Less Lump-Sum Cash||$31,310||Cash provided for removing the second mortgage and eliminating the payments|
|22||Fixed-Rate Unusable Funds||$0.00|
|23||Less Selected Credit line||$0.00|
|24||Available In First Year||$0|
|25||Left for monthly advance||$37,278||Amount used for monthly payment|
|26||Monthly Advance||$214.77||Monthly advance given to the couple|
|27||No more lien payments||0|
|28||Increase in monthly cash||$214.77|
|29||Monthly Term||Tenure||Tenure payment|
|30||Total Fees & Costs||$5,612||Total fees and cost involved in taking the loan|
The couple gets an additional $214.77/month. This is a tenure payment and will be given to the couple till either of the spouses is alive. The total benefit for the household is $329.98 + $214.77 = $544.75. This can be a major income boost for a couple. The elimination of mortgage payments coupled with tenure monthly payments is an ideal approach to increasing the monthly cash available.
The cost and fees are $5,612 which is 17.92% of the total amount owed in the mortgage. However, the interest for the next ten years would have been $8,748. Hence, the net benefit to the couple is $8748-$5612= $3136.
Another benefit of taking reverse mortgage to eliminate mortgage payments is that after retirement the income decreases substantially or completely. This removes the tax incentives of having mortgage payments. Overall it is a win-win situation for most of the household. However, home equity is the final asset available for individuals during their retirement and any action pertaining to a reverse mortgage should be taken after thorough research and homework.
There are also many reasons why seniors are getting a reverse mortgage. It’s normal to have questions or concerns and we are available to answer any questions you may have.
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