September 28, 2012
A major and potentially valuable feature of the HECM program is that it offers multiple options regarding how a senior can withdraw funds, as well as the flexibility to switch from one option to another as their circumstances change. This makes the HECM a potentially valuable component of a senior’s retirement plan. However, most seniors are selecting an option to cash out the entire equity in their house at the outset, which eliminates other options (unless they later repay some of the money they withdrew), and may leave them with nothing to fall back on if they need help in later years.
The
HECM options that can significantly strengthen a retirement
plan are being used by very few. The seniors who could use
these options advantageously, unlike many who select the
all-cash option, are not driven by immediate financial
pressures; their financial challenges lie ahead of them.
Most seniors are not aware of how HECMs could enhance their
retirement, and they don’t hear about it in HECM
advertisements. The industry is focused on the all-cash
option, because it is easier to explain, easier to sell, and
much more profitable.
This
article describes several ways that a HECM can enhance a
retirement plan.
Supplement Income With a
Tenure Annuity
All
reverse mortgage models before the HECM were designed to
provide seniors with additional monthly income for as long
as they lived in their house, and the HECM offers this
option, called a tenure annuity. The monthly payment
continues until the borrower dies or moves out permanently.
The
72-year old senior referred to in an earlier article, who
could draw cash of about $255,000 on a house worth $400,000,
could opt instead for a tenure annuity of $1,460 a month. Or
she could take $730 a month, reserving a credit line of
$128,000 for future use.
The HECM program allows seniors to combine credit
lines and annuities in any proportions.
A
unique feature of the tenure annuity is that it can be
modified at any time based on the home equity remaining at
that point, for $20 paid to the servicer. For example, the
senior who finds that the monthly tenure payment won’t be
needed for awhile can switch the unused equity to a credit
line, which will grow in size from that point on. In the
opposite case, the senior who needs a larger payment can
switch to a term annuity. For another $20, those who
switched can switch again.
Use a HECM Credit Line to
Offset Pension Termination
Millions of married
couples are living partially on pensions paid to one of
them, which will stop when that person dies. The drop in
income of the surviving spouse could have a major impact on
that person’s standard of living – unless it is offset by
another source of funds.
A HECM credit line
designed to be used by the surviving spouse after the death
of the pensioner, could provide that offset. The earlier the
credit line is established, the larger it will be when the
need arises.
Use a Term Annuity to Avoid
Running Out of Assets
Seniors
who enter retirement with a block of financial assets that
they intend to use up during their remaining life face the
challenge of deciding how much of these assets they can draw
down each year without running out of money while they are
still alive. HECM term annuities help deal with this
challenge by allowing the senior to delay the process of
asset depletion. Term annuities can be three or four times
as large as a tenure annuity because the payments don’t last
as long
If the
payment on a 10-year annuity is
adequate to meet the senior’s needs, for example, the
senior’s assets can be allowed to grow for another 10 years
before asset depletion begins. This substantially reduces
the danger of running out.
Use a Credit Line to Avoid
Running Out of Assets
More affluent retirees who
have assets sufficient to carry them well past their
expected life span may nevertheless feel uncomfortable about
the possibility, however small, that they could run
out if their life span is exceptionally long. A HECM credit
line is the perfect insurance policy against that
contingency because it grows over time and it costs a tiny
fraction of what a life insurance policy offering the same
cash draw would cost. In most cases, the line won’t be used
and the senior’s equity in the house would go to their
estate, but meanwhile they have peace of mind.
Note
that a senior can combine a term annuity that defers the
asset depletion period, and a credit line that insures
against the remaining small probability of running out of
money if they are exceptionally long-lived.
