This article describes a way in which retirees can use a HECM reverse mortgage credit line as a form of insurance to protect against impoverishment if they live too long.

Using A HECM Reverse Mortgage To Prevent Future Impoverishment
September 5, 2020

  

"I am 64, have a house worth $370,000 with a mortgage balance of $170,000 at 3%, and $260,000 in a savings account at 1.5%. Should I use my savings, which I don’t need today for living expenses, to pay off the mortgage?”

I would. Paying off the mortgage is the equivalent of an investment that yields 3%. Since you are not earning 3% on your savings, repayment would save you money.

Having paid off the mortgage, you should consider using your now debt-free house to store financial acorns for the winter of your older years. The best way to do that is to take out a credit line on a HECM reverse mortgage and sit on it unused – until you need it. The line will be based on an adjustable rate HECM and will grow at the HECM interest rate plus the mortgage insurance premium. The best rate, for this purpose the highest rate, is currently 3.461% which includes the mortgage insurance premium.  

In today’s low-rate market, a growth rate of 3.461% is attractive. You can use the line at any time, drawing cash, or converting it into a monthly payment, called a “tenure payment,” for as long as you live in the house.

The data in the table apply to your age of 64, and your house worth $370,000, which is assumed to appreciate 4% a year. When you close on the HECM, you will have a credit line of $184,461 which could be used immediately to buy a tenure payment of $437 a month. You will owe $13,679 covering the closing costs of your HECM.

Using a HECM reverse mortgage as longevity insurance

The numbers applicable to the closing date are based on price data reported to my web site, and are therefore accurate on the day specified. The other numbers, applicable to the future, are projections based on the assumptions indicated.

If you don’t use the line for 10 years, and assuming the rate stays at 3.461%, the line will grow from $184,641 to $260,348 and the monthly  tenure payment would grow from $437 to $1,289. If you live another 10 years without touching the line, you could begin drawing $2,519 a month.    

Without doubt these numbers on credit line growth are understated because the unprecedented low interest rates we see today will not last forever. As rates begin to rise, the credit lines available to new borrowers will decline – they erred in waiting too long. The growth rate of existing credit lines, however, will grow at a more rapid rate. A rough indication of how that might evolve is provided in the lower part of the table, which assumes that the rate immediately jumps to the maximum of 8.461% and the property appreciation goes to 6%.

The approach described above is aimed at retirees with home equity who have no immediate need for additional spendable funds but are concerned about whether that will continue to be the case if they turn out to be especially long-lived. They can view a HECM credit line as a form of insurance on which they can draw at any time if needed. If it is never needed, their house will pass to their estate, which will repay the small loan balance. That balance can be considered the cost of the insurance.

Note: The data in the table are taken from my reverse mortgage web site, www.kosher-reverse-mortgage.com.

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