Many people approaching retirement face choices on what to do about their home mortgages, especially if they are nearing a payoff or need to tap the equity for living expenses.
Should I pay off the loan, or refinance at a lower rate, for instance? Is a reverse mortgage for me?
“One of the keys to a successful retirement is reducing your expense,” said Ed Taylor of Taylor Financial in Wilmington. “If possible I like to see clients be near the end of their mortgage right around retirement.”
If your mortgage balance is relatively low, paying it off may be the best choice.
“With a low mortgage balance the tax benefit is minimal, if any,” he said. Toward the end of a mortgage’s term most of the payment is toward principal, so there’s little interest to claim as a deduction on tax returns.
But, Taylor points out, it depends on what assets you have and what sources of income you have available in retirement.
It might be tempting to tap into your home equity to help fund retirement, and one way to do that is a reverse mortgage.
A reverse mortgage is a loan that is available to people at least 62 years old who live in their home, and is used to release the equity in the property to the homeowner, in the form of monthly payments, a lump sum or a line of credit, according to National Association of Personal Financial Advisors. Repayment is deferred until the owner dies or leaves, or the home is sold.
In a reverse mortgage, the homeowner makes no payments and the debt on the property increases up to a pre-determined maximum amount.
In a regular mortgage, you make monthly payments to the lender. In a reverse mortgage, you receive money from the lender, and generally don’t have to pay it back for as long as you live in your home, according to the Federal Trade Commission.
The proceeds of a reverse mortgage generally are tax-free, and many reverse mortgages have no income restrictions.
“Reverse mortgages are beneficial in very unique situations,” Taylor said. “A property owner would have to have a need for current cash and not have plans for leaving their property to beneficiaries,” he said.
“They would have to understand the money that they are taking out of their home is not free to them. You are being lent money that you have already paid interest on, and it’s generally not cheap money.”
With a reverse mortgage, you are charged interest only on the proceeds you receive, according to the National Reverse Mortgage Lending Association.
“Rates are tied to an index, such as the one-year Treasury bill or the London Interbank Offered Rate, plus a margin that typically adds an additional one to three percentage points onto the rate you’re charged,” according to the industry association.
Interest is not paid out of your available loan proceeds, but instead compounds over the life of the loan until repayment occurs.
Additionally, a lender could set aside funds to pay future charges if it determines you may not be able to keep up with taxes and insurance, according to the association.
How much you can borrow depends on several factors, including your age, the type of reverse mortgage you select, the appraised value of your home, and current interest rates, the FTC says. In general, the older you are, the more equity you have in your home, and the less you owe on it, the more money you can get.
