To qualify for a reverse mortgage, there are no income requirements. A homeowner must be age 55 or older and have equity in their home. The reverse mortgage lender releases up to 55 per cent of the assessed value of the home and no payments are required as long as the homeowner remains in the home.William_Potter/iStockPhoto / Getty Images
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Advisors typically view reverse mortgages as a last resort for cash-strapped homeowners to boost their retirement incomes. But some clients are using reverse mortgages increasingly for other reasons, such as securing that desired house or apartment earmarked for downsizing.
Angela Calla, mortgage broker at Dominion Lending Centres in Vancouver, has found many retired clients looking to buy the new downsized property first before selling their current home. She says some want to hold onto the first house in case things don’t work out with the downsized home, or move out and renovate to get a higher sale price once they are out of the home. It can be harder for retired clients to get a traditional mortgage or secured line of credit because to qualify, they need to prove consistent income that qualifies with a stress test of more than 9 percent.
“They’re simply using the products that are available to position themselves best,” she says. “They’re also mitigating risk because what if they get into that downsized house or apartment and they hate it? If they actually sold the house, they wouldn’t have anywhere to go.”
To qualify for a reverse mortgage, there are no income requirements. A homeowner must be age 55 or older and have equity in their home. The reverse mortgage lender releases up to 55 per cent of the assessed value of the home and no payments are required as long as the homeowner remains in the home.
Traditionally, reverse mortgage interest rates were 1.5 to 3 percentage points higher than a traditional mortgage or secured line of credit, but many newer products are closing the gap, says Jeremy Enwright, mortgage broker at SafeBridge Financial Group in Toronto.
For example, he notes that some five-year fixed reverse mortgages offer interest rates of between 7.69 and 8 per cent, slightly higher than the prime rate of 7.2 per cent, he notes. But short-term reverse mortgages are more expensive, usually with around a 10 per cent interest rate.
“Not everyone qualifies for the traditional product and reverse mortgages are now positioned a bit better than private lenders,” Mr. Enwright says.
“That should be an option taken into consideration for advisors. The more sophisticated the investor, the more they understand the benefit.”
One appeal to seniors with a reverse mortgage is just having the money and not having to make a payment back every month, like they would on a traditional mortgage, Mr. Enwright says. That fact may mean less of a need to draw down on investments, which would likely trigger capital gains, he adds.
A recent study from the Canadian Foundation of Financial Planning found that traditional financial plans often ignore home equity products and focus on other financial assets. But perhaps that’s for good reason, as the same report also notes that just 3 per cent of seniors surveyed passed a questionnaire about reverse mortgages, which speaks to the complexity of the product.
The pros and cons of getting a reverse mortgage
Carolina Henao, certified financial planner with Roca Financial Solutions Inc. at Sun Life Financial Investment Services (Canada) Inc. in Richmond Hill, Ont., has received more queries from seniors about reverse mortgages. From the outset, she mentions the need to read the fine print.
“I show them the pros and cons and how it fits into their financial plans specifically,” she says. “We run all sorts of possible scenarios as they need to understand how it would affect their current and future situation.”
Ms. Henao notes the importance of discussing estate issues with reverse mortgages. As no payments are needed until the house is sold or the last homeowner dies, that can cause major problems if the client hoped to leave the house to a family member one day.
“This is a loan where they’re basically paying interest on the interest and that makes the loan bigger over time,” she says. “So, what’s their plan? To leave the loan until death? They need to understand the consequences of that decision.”
She also says when the homeowner passes, the estate usually must repay this loan, including all the interest and fees within a specific period of time provided by the lender.
“The lenders aren’t going to wait until the estate is settled to get their money,” she says.
As for someone who plans to use the reverse mortgage temporarily, Ms. Henao says it may be a solution for those who are more financially stable.
“But that’s not a situation I tend to see. Most people looking at this are people who need funds to supplement their retirement incomes,” she says.
In cases in which the client hopes to pay back the mortgage, Mr. Enwright advises they plan on being in the reverse mortgage for three years to avoid penalties and setup, closing and repayment fees.
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Deanne Gage