Among the questions asked this year by readers, a few concerned reverse mortgages. I admit to being surprised each time, given the current high interest rates. But when you think about it, the context of the difficult stock markets of recent years, combined with the marked increase in the value of homes in several regions of Quebec, could explain why some people wonder if using this type of product is worth considering. .
I was recently asked this question which sums up all the others well: “I would like to know what you think of the reverse mortgage and if it is a good way to finance our retirement. » This is a good question given that many retirees who have observed the decline in their investment portfolio in 2022 are experiencing this kind of insecurity while they are in full disbursement.
Human beings are emotional beings, and their brains probably quickly make the connection between the increase in value of a house and the possibilities of splurging during retirement…
An important asset
It is entirely true that the main residence represents an important asset for many households, and often even the most important asset in the wealth accumulated in retirement. Some will choose to sell a home with significant value to move to a smaller property. This generally results in excess capital to invest to fund valuable retirement years.
Others, on the contrary, will choose to “age at home” and may want to pass on their home to their children. Moreover, given the increasingly difficult access to property, this avenue, rather rare in the past, could well become more common in the future.
Ideally, however, retirement is financed with more liquid assets than the house. But in financial planning, when the disbursement projections suggest cash deficits after a certain number of years of retirement, or if the solidity tests of the plan are not conclusive, the debt-free real estate will then be identified as an additional asset to achieve financial objectives. Like an ace in a deck of cards. How ? In particular through the reverse mortgage, which makes it possible to generate tax-free cash – the main residence being exempt from capital gains – from a fixed asset, and this, in every sense of the word!
But how, and at what cost?
Reverse mortgage or mortgage margin?
The reverse mortgage allows you to borrow against the market value of the house without having to sell it. This is a specialized financial product generally offered to people over 55 and which will be limited to 55% of the market value of the main residence, i.e. the one you live in for the majority of the year. The main distinction from a traditional mortgage is that you can receive regular payments (or a combination of a lump sum and monthly), according to a pre-agreed agreement. It is therefore possible to consider that it makes it possible to transform an active real estate asset into regular income.
The main disadvantage of this product is that it is expensive. Not only are borrowing costs higher than for standard mortgage products, but there are also fees of all kinds (evaluation, registration, legal). Repayments are generally not mandatory, but it is important to check possible penalties for early repayment. In addition, the conditions for reimbursement upon death are quite strict and may require a quick sale; life insurance coverages should be reviewed accordingly.
Although its simplicity makes the reverse mortgage attractive, it is also possible to finance retirement years by using a traditional mortgage margin, whose fees are lower and which is limited to real needs. This avenue is probably the one to favor in many cases, especially when the other assets held allow you to finance a good portion of your retirement. The margin then represents a flexible way to use capital only if necessary, or temporarily, but above all to repay with complete flexibility.
For example, during a period of bear markets, you could exercise patience rather than selling for a large sum in an unfavorable period, whether to cover your cost of living over a short period or, for example, to make important work on the house or supporting your children in need. When the markets rise, you can then sell and repay the margin in full.
In conclusion, it may seem absurd to have demonstrated the discipline to repay your mortgage before retirement only to, as soon as the task is accomplished, consider a line of credit as a retirement strategy! But in certain circumstances, and with guidance specific to your situation, its use may sometimes be appropriate. Using tax-free capital in retirement is not included in the calculation of Old Age Security benefits, for example.
The reverse mortgage should still only be considered as a plan B, or even a plan C, and generally quite late in life, when basic needs cannot be met by other accumulated assets.
Financial planner, Sandy Lachapelle is president of the independent firm Lachapelle Intelligent Finances.