(Kate Ashford, NerdWallet) Someone turning 65 has nearly a 7-in-10 chance of needing long-term care in the future, according to the Department of Health and Human Services, and many don’t have the savings to manage the cost of assisted living. But they may have a mortgage-free home — and the equity in it, giving them the potential option of a reverse mortgage to help cover care costs.
Here’s how to evaluate whether a reverse mortgage might be a good option.
WHAT IS A REVERSE MORTGAGE?
A reverse mortgage is a loan or line of credit on the assessed value of your home. Most reverse mortgages are federally backed Home Equity Conversion Mortgages, or HECMs, which are loans up to a federal limit of $970,800. Homeowners must be 62 years old to apply.
If you have at least 50% to 55% equity in your home, you have a good chance of qualifying for a loan or line of credit for a portion of that equity. How much you can access depends on your age and the home’s appraised value. You must keep paying taxes and insurance on the home, and the loan is repaid when the borrower dies or moves out. If there are two borrowers, the line of credit remains until the second borrower dies or moves out.
A reverse mortgage is a non-recourse loan, meaning if the loan amount ends up being more than the home’s value, the borrower or inheritor won’t have to pay more than the loan amount owed or what the home could be sold for.
CAN YOU USE A REVERSE MORTGAGE FOR LONG-TERM CARE?
A reverse mortgage can provide a crucial stream of income to pay for long-term care, but there are some limitations.
For instance, a reverse mortgage requires that you live in the home. If you’re the sole borrower of a reverse mortgage and you have to move to a care facility for a year or longer, you’ll be in violation of the loan requirements and must repay the loan.
Because of the costs, reverse mortgages are also best suited for a situation where you plan to stay in your home long-term. They don’t make sense if your home isn’t right for aging in place or if you plan to move in the next three to five years, says Marguerita Cheng, a certified financial planner in Potomac, Maryland.
But for home health care or paying for a second borrower who’s in a nursing home, home equity can help bridge the gap. If you want to pay as you go and not pull money out of securities in a down market, you can pull it out of your home equity, says Dennis Nolte, a CFP in Winter Park, Florida.
ADVANTAGES OF A REVERSE MORTGAGE
Your home is generally one of your biggest assets, and using its value to handle long-term care costs can make sense.
— YOU’RE TAPPING AN “UP” ASSET. “Most people will find that their home is the only asset they own appreciating this year, and that makes it a good source to utilize for income needs,” says Byrke Sestok, a CFP in Harrison, New York.
— YOU CAN LOCK IN VALUE. If you think you’ll have trouble covering a future long-term care need, you can get a reverse mortgage now, when home values are high. An unused line of credit grows over time, so your balance will have increased by the time you need the money.
— THE INCOME IS TAX-FREE. All money you withdraw from your reverse mortgage line is tax-free, and it doesn’t affect your Social Security or Medicare benefits.
DISADVANTAGES OF A REVERSE MORTGAGE
Reverse mortgages can solve a problem, but there are downsides to using the equity in your home to cover costs.
— THEY’RE EXPENSIVE. Getting a reverse mortgage costs about as much as getting a traditional mortgage — expect to pay about 3% to 5% of the home’s appraised value. However, you may be able to roll the costs into the loan.
— YOU MUST PAY INTEREST. Interest accrues on any portion you’ve used, so eventually you will owe more than you’ve borrowed.
— YOU’LL LEAVE LESS TO HEIRS. The more of your reverse mortgage you use, the less you’ll be leaving behind.
The question of whether to use your home equity as a stream of income can be complicated and depends on your other assets and plans for the future. A financial planner can help you run the numbers and point you toward a vetted reverse mortgage specialist if the product makes sense for you.