Thursday, August 19, 2010

Should you get a REVERSE MORTGAGE? (No).

There is a lot of talk these days about Reverse Mortgages. For most people, they are probably a bad idea.

Should you get a Reverse Mortgage? Probably not. Why? Because if you are struggling for cash to live on a daily basis, there are other options you can take. If you are thinking about getting a reverse mortgage, chances are, it is a wake-up call to sell your home and downsize - which is a far better idea.

What are Reverse Mortgages? As the name implies, it is a debt instrument that takes equity out of your home, paying you in monthly installments, increasing the debt applied to the home. For more information about the details of reverse mortgages, see this FHA website, or this Wikipedia Entry.

The first problem with the Reverse Mortgage is readily apparent - you get a fixed amount of monthly income (actually equity) from the home. While this may seem like a way out of your current financial difficulties, it may only be a temporary patch. For example, if inflation rises, you may find that the $1000 per month you are taking out in a reverse mortgage is not sufficient to cover your monthly expenses. There are no cost-of-living adjustments in a reverse mortgage, so if you need more money from your home, you are basically stuck.

And since interest is added to the money being taken out, the amount you can get from the home is less than its overall value. This interest compounds over the years, and when you die or sell the home, the total amount you've taken out, plus interest, is due. If there is any cash leftover after the sale of the house, you get to keep that. But since interest is added on, in effect, you are squandering your equity on interest payments.

And unfortunately, that ends up being an all-too-typical scenario for Seniors. Many older people say "I'll die in this home" and think they will go on living there forever. But if they are lucky to live a long time, chances are, eventually, they will have to go into assisted living. At that point, the home will have to be sold and the reverse mortgage paid off. That could be in as little as 5-10 years from date of the reverse mortgage was taken out.

So the amount of money the Senior gets from their home is less the payments received plus interest. Make no mistake about it, this is a loan, and has to be paid back and will most likely be paid back in your lifetime, not by your estate manager.

And that is the first fiction of the Reverse Mortgage - that you'll be dead when it all comes due, so you can skip out on the payback. In reality, the odds of you (and your spouse) both dying while owning the home are pretty low. So you will have to deal with the "back end" of a reverse mortgage down the road.

The reason most given for getting a Reverse Mortgage by Seniors is so that "We can stay in our home". This is a very poor reason for squandering equity, and should be a wake-up call that perhaps you can no longer afford your home.

Again, the obsession American's have about houses causes a lot of financial distress. And the idea of "staying" in a home when you are older and infirm is probably a bad idea. We've seen, firsthand, the results of this sort of thing while living in Florida. Older people, unable to care for themselves or their home, are found dead in their own filth, in a rotting house that is falling in around them. It is not an unlikely outcome, but a likely one.

Even for the lucky ones, staying in a house well into your 80's or 90's can be problematic. Unless you have a boatload of money to hire people, the house falls into disrepair. This does not happen overnight, but by degrees. Little by little, the lawn and gardens go to seed, the gutters clog, and the paint peels. Pretty soon the place looks like the house my great Aunts lived in, and what the local kids refer to as "the haunted house".

And all of this occurs because people want to "stay in their home" - usually out of pride. Giving up the home is seen as surrendering, or perhaps exposing financial setbacks. And many people don't want to admit that perhaps their financial planning for their Senior years was perhaps not up to par. So rather than admit defeat and find a cheaper place to live, they consider a Reverse Mortgage.

But what happens when the house needs a new roof? Or a new stove? Or you need a new car? The monthly dribble from a reverse mortgage might not be enough to handle big-ticket items and unexpected expenses.

For myself personally, if faced with such a situation, I think a better approach would be to sell the home, put the money in an FDIC insured account (at that age, you've got no business playing stocks) and then RENTING a nice Senior-friendly apartment, or buying a smaller, less expensive home. Rattling around in a four-bedroom home at age 85 does not sound like fun to me, nor does mowing the lawn or cleaning gutters.

By selling, you liquidate the equity in your home and have access to all of it at once - without interest payments to make later on (which, as illustrated above, you'd most likely make, not your heirs). You also have money to go into assisted living, if necessary, or to pay for unexpected expenses.

And since you are no longer a homeowner, you don't have to worry about mowing lawns or painting eaves - or cleaning four bedrooms. Less stress, less work, less expenses, more money. It doesn't seem like a real tough choice to me.

But Pride Goeth Before the Fall, as I noted in an earlier post. And for many Seniors, "staying in the home" is a matter of pride, not practicality. Selling the home is seen as a sign of defeat - a pride issue. Seniors worry about how they will be perceived by their peers if they sell out and move to cheaper accommodations.

And in that regard, many Reverse Mortgages are taken out not merely to survive, but to live a more luxurious retirement. The neighbors have a new Buick, so you have to have one, too. Rather than just pay cash, the Reverse Mortgage crowd squanders the equity in their home by taking it out in interest-bearing chunks, and then pays it to the car dealer in more interest-bearing bits. Paying interest twice on the same money!

And many Seniors (particularly women) claim they want to be with "their things" or are "comfortable in my own home". Materialism, plain and simple. Making major financial decisions in your life based on having a place to put your Hummel collection is a really stupid idea (and yea, I've done similar things!). Worrying about where to park your car or your figurines is pretty silly, when they are, after all, just objects.

Such motivations are awfully weak arguments to sign on to an onerous financial commitment. And as noted, they are flawed arguments as well. You WILL likely leave your home before you die, and at that point, wish you'd moved years earlier.

One thing I am realizing over time, is that the time to take action is NOW, not later. And one way to stay one step ahead of the game is to look down the road and see where things are heading and make a move, perhaps a little earlier than you otherwise would, in anticipation of future events.

If you are struggling to make ends meet in retirement, a Reverse Mortgage may seem attractive, but all it is, is a temporary patch - and expensive temporary patch. What you should be thinking about is why you "need" to stay in a home when you could downsize and live more simply with less "things" and actually be happier. It is inevitable that you will do so. So do so, while you still have options and choices to make, and are not having your choices thrust upon you.

That is one reason we are selling our vacation home. Many older folks say "Well, you are too young to think about retirement!" But as I have noted in my Laid Off! entry, none of us can predict when we will retire (it may be thrust upon us, early and unwanted) or when we will die (ditto). Planning in advance and getting ready for the next stage is a much better idea than waiting until things get out of hand and then being forced to pick from limited and bad options.

My partner's Grandmother took this proactive approach to retirement. When her daughter died, she sold her home to her son-in-law and went into a senior living apartment community with "lifetime care". At the time, many in the family thought she was being dramatic in doing so "only" at age 68. But the liberation of apartment living allowed her to do things, instead of maintaining things. And by taking out the equity in her home, she was able to pay for "lifetime care".

And when she became more elderly and found it harder to take care of herself, she was cared for. No one had to send a visiting nurse to a falling-down house with an old lady rattling around inside. No one had to shuffle her off to a home not of her own choosing when she could no longer care for herself. Rather, she ended up having a comfortable retirement and didn't have to worry about these sort of things.

And yes, she was able to keep some of her Hummel figurines.

"Staying in the house" is not the end-all and be-all to living, and if you are facing this issue, swallow your pride and think rationally about where this is all going. Chances are, downsizing and moving on is a better bet than getting a Reverse Mortgage and "hanging on".

UPDATE: February 1, 2011

CNN ran another article about this and I think they once again were not very clear about the consequences.  While they went into great detail about the various options, I don't think they strongly enough pointed out that the closing costs involved (often $5000 or more) don't make sense.  The article is in response to a "viewer" who wants to get a reverse mortgage line-of-credit to do you-know-what (buy a brand new car, pay off credit cards, other sloppy financial habits).

In short, they want to do in retirement the same lazy financial habits people have while working - selling off their equity to pay for a chain-restaurant meal they charged on a credit card five years ago, or buying a "shiny new car" to impress the neighbors.

In addition to the staggering closing costs ($5000 in bank fees so you can have a car?) there is the interest.  And as I noted, you or your spouse WILL sell the house eventually, unless you engage in a murder-suicide pact (how charming).  And when you do, you will pay those closing costs AGAIN and find out that you have spent away yet more of your precious equity in bank fees and interest.

You retirement years - spend them wisely - by giving all your money to a bank.  Uh, maybe not?

If you feel the need to tap into your home's equity, sell the home and move into a cheaper place, invest the proceeds in safe harbors and enjoy life.  Pay yourself, not a bank.

A reverse mortgage hands you a pittance of your own money, pockets the rest and provides you with soothing lies such as "you get to stay in your home!" and "you don't have to worry about paying it back!"

And both are untrue.

UPDATE:  May 14, 2014

I heard about an unusual one - an elderly couple (not married) decide to get a reverse mortgage.   The house is in his name only (for some reason) and she is 20 years his junior.   He has two kinds of Cancer and Emphysema.  When he dies, the house gets sold to pay off the reverse mortgage.   And at the rate they are going, he's not long for this world.

His spouse will end up out on the street.   I am not sure this is a good example of estate planning.   It is sort of an act of cruelty.

But you'd be surprised how many people - even married folks - think of things in terms of "my money" and "her (or his) money" and not in terms of "our money".