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Funding Retirement: Is It Wise to Tap Your Home Equity?

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The figures on home equity are breathtaking. As the oldest baby boomers are about to turn 80 in the next few years, members of this huge generation (plus their older counterparts from the so-called Silent Generation) are sitting on half of the nation’s home equity. The estimated value, according to recent reports cited by USA Today:  well over $17 trillion. What’s going to happen to all that money?

According to that same article, less then 10 percent of seniors say they plan to use all or part of that equity to help fund their retirement. But rising costs coupled with failure to plan and save may put the kibosh on those intentions. Instead of passing that windfall to their heirs, unprepared boomers may find they have little choice but to tap their home equity to cover the costs of a retirement that can last two or three decades.

For these boomers, then, the question may not be whether to put their equity to work, but how. With more and more retirees relying on home equity to pay off debts and build up a retirement nest egg, this recent article from NextAvenue addresses that question, as reporter and author Harriet Edleson explains the pros and cons of some of the more common tools available.

Clearly, the article observes, many boomers who have been reluctant to tap their home equity are having second thoughts about the necessity of what NextAvenue calls “Retirement Plan B.”

Mixed Bag: Boomers Tap Home Equity While Many Carry a Mortgage

In her NextAvenue article, Edleson acknowledges a paradox: boomers are dipping into their home equity at the same time as a record number of their peers are entering retirement with homes that aren’t paid off.

“Growing numbers of older Americans are tapping the equity in their homes to pay off high-interest debts or cope with an unexpected medical bill or other financial setback,” Edleson writes. “At the same time, more people aged 65 and older are entering retirement while still paying off first mortgages used to buy their homes.”

Even Among Those 80-plus, Mortgage Debt Remains a Reality

These twin trends – the need to borrow plus the existence of unpaid mortgages – puts many retirees in a bind. “As a result,” Edleson writes, “the percentage of people aged 65 and older who are carrying some kind of mortgage debt — including home equity loans and home equity lines of credit as well as first mortgages — rose to 41 percent from 24 percent between 1989 and 2022, according to the Joint Center for Housing Studies of Harvard University.”

That same data source revealed that even older homeowners – those 80 and older – are ten times more likely than before to carry a mortgage, with that share ballooning from just 3 percent to 31 percent over that same period.

Running Out of Options to Pay for Retirement Living

Edleson spoke with Greg McBride, chief financial analyst with Bankrate.com. His assessment was blunt. Older Americans “have run out of other options,” he said. “Home equity often becomes the default piggy bank.”

As an example, the NextAvenue article spotlights a Pennsylvania couple, Bill and Carol Chambers, both 72. (We’ve shortened their story here on the Blog due to space constraints.) After living for several years on combined Social Security benefits of about $40,000 a year, they decided to pursue the most common type of reverse mortgage, called a HECM – a home-equity conversion mortgage.

“We didn’t know how we’re going to live,” Bill told NextAvenue. “We want to have the wherewithal to take care of ourselves and hopefully to be able to leave something to our three children.” After initial reluctance, Carol agreed, reassured by the safeguards built into a HECM loan.

Financial Setbacks Put Strain on Middle-Class Living

In relating Bill and Carol’s story, the NextAvenue article describes a common picture – a middle-class couple who have seen their share of financial strain. Bill was downsized from his sales and marketing job at age 44, and subsequent jobs never paid as much. Carol worked a variety of jobs. They entered retirement with their home equity as their biggest asset by far.

Housing expert Jennifer Molinsky of Harvard University spoke to Edleson for her article.  “Tapping home equity can help cover some of the costs associated with later life,” Molinsky said. “You have a nest egg you could tap in retirement, (yet) most people don’t want to tap it. They want to keep it for an emergency or to pass along to their children.”

Various Ways to Access “Undisturbed” Home Equity

With so much money hiding in plain sight, and so many retirees in need of retirement income, it seems obvious that millions of seniors will soon be exploring ways to tap into a resource that has laid undisturbed for decades. Edleson explains the four primary methods to consider.

“There is a range of ways to access home equity,” she writes, “including a cash-out refinancing of the primary mortgage, a home-equity loan, a home-equity line of credit and a home-equity conversion mortgage.” This last category of loans, abbreviated HECM as noted above, are insured by the U.S. Department of Housing and Urban Development and represent the most common type of reverse mortgage.

Traditional Equity Loans Come with Major Risks

But each of these tools comes with drawbacks. We’ve summarized a few.

Cash-Out Refinancing (sometimes nicknamed a “cash-back refi”) used to be highly popular, as those with high-interest mortgages swapped them for new loans with dramatically lower rates. But today, with mortgage interest rates at 6 percent or more, “a cash-out refinance is not as attractive as it was in 2021 when mortgage rates were in the 2 percent to 3 percent range and monthly payments were roughly half what they are today,” says NextAvenue.

Home equity loans, in which a homeowner borrows a set amount with the house as collateral, are even pricier. NextAvenue reports that interest rates on these loans average 8.35 percent.

Home equity lines of credit, or the HELOC loan, are more expensive still. With a HELOC, in which the homeowner has the right to tap equity as needed, the average interest rate is 8.68 percent.

Remember, too, that with each of these three home equity loans, you as the homeowner are still making regular loan payments, which can be substantial. Depending on your financial health, this can make the hole in your budget even worse. “It’s not cheap to borrow against home equity,” one financial expert told Edleson. “There is no longer the low-cost source of borrowing.”

A HECM is a Means to Borrow Against the Future

For Bill and Carol Chambers, as reported in NextAvenue, a home equity conversion mortgage was the chosen path. Of the $100,000 they were able to access, they left $85,000 untouched for now as a reserve against future needs.

Professor Don Graves, retirement income expert at the American College of Financial Services in King of Prussia, Pennsylvania, told Edleson how a HECM turns your home “into a cash reserve.” He explains, “With a reverse mortgage you still own the home, and your name stays on the title.”  If the owners remain in the house until they pass away, the heirs may inherit the house with the reverse mortgage on it.

“They can refinance the property or, most commonly, sell it and use the proceeds to pay off the reverse mortgage,” according to NextAvenue.  Once they satisfy the loan and other costs, they keep what’s left of the sale price.

Major Caveat: Reverse Mortgages Are Not for Everybody

Because of the cost and the long-term impact, a reverse mortgage is not a panacea. Retirement expert Graves recommends checking all your alternatives before deciding on a HECM. Also, make careful note of the requirements. One homeowner must be 62 or older. You have to live in the property. Homeowners must keep current on property taxes and homeowner’s insurance, and maintain the property well. Failure to do these things can put your property at risk.

Edleson makes an important observation, one with which we agree wholeheartedly. “It’s important to evaluate your entire financial situation before you consider tapping your home equity,” she writes. Don’t use home equity to subsidize a lifestyle you can’t afford. Don’t spend precious equity on trips and toys. Your home (in most cases) remains your biggest asset, and that equity must not be squandered.

Beyond that, make certain this is the right home for you over the long haul. If you can see yourself staying put and aging in place in this house, a reverse mortgage might be a good choice. If you see yourself moving in the next few years, there are better and less costly choices.

Rajiv’s Advice: Don’t Decide in a Vacuum

We asked Rajiv for his view of using home equity to fund retirement. As expected, he took a much broader view.

“Is tapping your home equity [in retirement] a good idea?” he asks. “The answer is a definite ‘maybe.’  I say that because too many people make big decisions like this without considering all the elements that they should be taking into account. A reverse mortgage or a HELOC might be an excellent tool for you – but making a hasty decision about something this important can be disastrous.”

What’s the answer? It’s a common refrain from Rajiv. “This is why I urge everyone to meet with a qualified financial planner and prepare what I call a financial dashboard. It’s an incredibly powerful and versatile tool that will help you make critical financial decisions with confidence. Before you go down the wrong financial path, prepare a financial dashboard – it’s the best way I know of to stay on the right course.”

Contact us and we’ll gladly refer you to a planner who can assist you.

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(originally reported at www.nextavenue.org)

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