Reverse Mortgages In Canada: The Pros And Cons
Theres been a lot of talk about reverse mortgages over the past few years, with supporters and opponents both being very vocal. Reverse mortgages are used by older Canadians to provide a source of retirement funds, and with more than 60% of Canadians concerned theyll outlive their retirement savings, its no surprise reverse mortgages are a talking point .
However, there are pros and cons to getting a reverse mortgage. Heres everything you need to know about reverse mortgages in Canada.
Is A Reverse Mortgage A Good Idea
A reverse mortgage can be a help to homeowners looking for additional income during their retirement years, and many use the funds to supplement Social Security or other income, meet medical expenses, pay for in-home care and make home improvements, Boies says.
There are also flexible ways to receive the money from the reverse mortgage: a lump sum, a monthly payment, a line of credit or a combination.
Plus, if the value of the home appreciates and becomes worth more than the reverse mortgage loan balance, you or your heirs may receive the difference, Boies explains.
The opposite, however, can pose a problem: If the balance exceeds the homes value, you or your heirs may need to foreclose or otherwise give ownership of the home back to the lender.
There are also potential complications involving others who live in the home with the borrower, and what might happen to them if the borrower dies. Family members who inherit the property will want to pay close attention to the details of what is necessary to manage the loan balance when the borrower dies.
There are provisions that allow family to take possession of the home in those situations, but they must pay off the loan with their own money or qualify for a mortgage that will cover what is owed, McClary says.
Additionally, while not all reverse mortgage lenders use high-pressure sales tactics, some do use them to attract borrowers.
Reverse Mortgage Borrowing Limits
If you get a proprietary reverse mortgage, there are no set limits on how much you can borrow. All limits and restrictions are set by individual lenders.
However, when using a government-backed reverse mortgage program, homeowners are prohibited from borrowing up to their homes appraised value or the FHA maximum claim amount . Instead, borrowers can only borrow a portion of their propertys value. Part of the propertys value is used to collateralize loan expenses, and lenders also typically insist on a buffer in case property values decline. Borrowing limits also adjust based on the borrowers age and credit and also the loans interest rate.
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Financial Planner: When A Reverse Mortgage Makes Sense For A Borrower
A reverse mortgage is a type of financial product which has the potential to provide real relief in the form of additional cash flow for the right borrower, and should not be overlooked out of hand. This is according to Linda Leitz, a member of the Standards Resource Commission and a Certified Financial Planner Board in a column published by newspaper The Gazette from Cedar Rapid, Iowa.
In her second of two pieces looking at the potential effects of a reverse mortgage for a well-suited borrower, Leitz aims to discern for a reverse mortgage prospect exactly when the right time is for such a loan to be seriously explored.
For a retiree who has a mortgage on their home, if the payment puts a squeeze on money thats available for other living expenses, a reverse mortgage might relieve the pressure, she writes. Depending on the homeowners age and the homes appraised value, a reverse mortgage could pay off the existing mortgage, which would eliminate the house payment. There might even be enough equity to provide a line of credit for the borrower. The line of credit might be set up as monthly payments to the borrower, or provide the ability to draw money as needed.
The concept of the Home Equity Conversion Mortgage for Purchase is also explored, a comparatively little-used version of a reverse mortgage that certain loan officers see as a potential path forward for the industry at-large, according to outreach previously conducted by RMD.
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Considering A Reverse Mortgage Heres What You Need To Know
By Alexandra Macqueen on November 4, 2019
While a conventional mortgage advances you funds in order to buy a house, a reverse mortgage is just the opposite: It advances you funds from the house you already own. In this era of declining pensions, increased longevity and costly long-term care, are reverse mortgages a godsend? Or are they another symptom of growing debt?
More than ever, Canadians are relying on reverse mortgagesa dont-pay-till-you-die option to create cash flow from the equity in your homeand the trend is turning conventional wisdom about debt and retirement on its head. While past generations fought hard to avoid debt in their golden years, data from the Office of the Superintendent of Financial Institutions the federal government agency that supervises and regulates banks, insurance companies, and trust and loan companiesconfirms that reverse mortgages are on the rise in Canada, with $3.78 billion in reverse mortgage debt outstanding in July 2019, just over 26.24% higher than the same month last year.
But given rising home values and rock-bottom interest rates, perhaps the conventional wisdom about reverse mortgages is due for an update. Are reverse mortgages a symbol of everything thats wrong with Canadas debt-obsessed citizenry, or a rational solution in an era of declining pensions, increased longevity and costly long-term care?
Theres a lot to consider, so this explainer will take you through the ins and outs of reverse mortgages.
How Much Can You Borrow
The proceeds youll receive from a reverse mortgage will depend on the lender and your payment plan. For a HECM, the amount you can borrow will be based on the youngest borrowers age, the loans interest rate, and the lesser of your homes appraised value or the FHAs maximum claim amount, which is $765,600 as of Jan. 1, 2020.
You cant borrow 100% of what your home is worth, or anywhere close to it, however. Part of your home equity must be used to pay the loans expenses, including mortgage premiums and interest. Here are a few other things you need to know about how much you can borrow:
- The loan proceeds are based on the age of the youngest borrower or, if the borrower is married, the younger spouse, even if the younger spouse is not a borrower. The older the youngest borrower is, the higher the loan proceeds.
- The lower the mortgage rate, the more you can borrow.
- The higher your propertys appraised value, the more you can borrow.
- A strong reverse mortgage financial assessment increases the proceeds youll receive because the lender wont withhold part of them to pay property taxes and homeowners insurance on your behalf.
The amount you can actually borrow is based on whats called the initial principal limit. In January 2018, the average initial principal limit was $211,468 and the average maximum claim amount was $412,038.The average borrowers initial principal limit is about 58% of the maximum claim amount.
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Changes Announced By Hud Could Change The Calculus Of Whether These Loans Make Sense For Certain Borrowers
Seniors need to get a clearer picture of the pros and cons of getting a revere mortgage on their home before taking the plunge.
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A reverse mortgage can be a powerful financial tool in retirement, but consumers should learn about recent changes to the loan program before considering getting one.
Also known as Home Equity Conversion Mortgages, reverse mortgages are loans available to homeowners who are 62 years old or older that allow them to tap the equity in their home. The loans are originated by private lenders and insured by the Federal Housing Administration, a part of the federal Department of Housing and Urban Development.
They are called reverse mortgages because the lender pays the borrowers, rather than the borrower making monthly payments as with a traditional mortgage. To be eligible for a reverse mortgage, a consumer must own his or her home outright or have a mortgage balance that is low enough to be paid off with the proceeds of the reverse mortgage. Reverse mortgages can also be used to purchase a home.
Additionally, the home must be the borrowers primary residence. The loan is typically repaid with the proceeds of the homes sale after the owner moves or dies.
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What are the benefits of a reverse mortgage?
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What are the drawbacks of a reverse mortgage?
Get Breathing Room For Your Budget
A reverse mortgage could be good idea if youre house rich but cash poorin other words, you own your home outright , but dont have much cash-flow If you have a significant amount of home equity, but not a whole lot of ready cash in your bank account, it could make sense to utilize your available resources by tapping into that equity.
For example, if your budget is strained by ongoing monthly expenses such as medication, food, or utility bills, getting a reverse mortgage can help cover your everyday costs of living and give you some breathing room in your budget, while allowing you to remain in your home.
In another scenario, you might still owe quite bit on your current mortgage and a reverse mortgage might only give you enough to pay off your existing loan.
Some might ask why this would make sense if you cant get any money out of the house, but for others, it could be a good idea to take out a reverse mortgage in a lump sum and pay off your mortgage once and for all and be able to breathe easier knowing there are no more monthly mortgage payments.
You would still be responsible to pay your taxes and insurance, but would it make sense for you if you could eliminate your monthly mortgage payment? Only you can decide that.
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It Makes Sense To Choose A Reverse Mortgage If
You need extra money, but do not qualify for state or local assistance programs
You have enough income to cover property taxes, homeowners insurance, and home maintenance expenses
You do not want to sell your home
You want to delay Social Security benefits
Youre fine with selling your home when its time to pay the loan
Does A Reverse Mortgage Make Sense For You
Real estate expert Ilyce Glink on the basics of reverse mortgages, how the landscape has changed, and how to determine if they’re right for you.
Note: The National Reverse Mortgage Lenders Association’s website is now at ReverseMortgage.org.
Christine Benz: Hi, I’m Christine Benz for Morningstar.com.
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A Reverse Mortgage As A Financial Planning Tool
Joshua Wiesenfeld CPA
When reverse mortgages can be a reasonable choice
The following conditions can indicate that a reverse mortgage might just be the right product for your client:
Your client plans to stay put: Reverse mortgage borrowers are required to pay off the loan if they move out and must therefore carefully consider future housing plans. Anyone considering a reverse mortgage should be sure they have no short-term plans to move, advised Benjamin Dorsey, CPA/PFS, director of Tax Strategies at Cassaday & Company. The reverse mortgage is geared towards people who are certain they want to remain in their home.
Your client can afford the upfront costs: Reverse mortgage borrowers can incur significant upfront expenses. Just like a traditional mortgage, reverse mortgage borrowers must pay appraisal and closing costs, explained Rob Premselaar, CPA, a tax manager at Mach & Associates PA. That said, since a reverse mortgage is essentially a loan payment, it is not a taxable event and wont impact your taxable income or tax bracket.
But Premselaar warns of a catch in the event the home is later sold: Reverse mortgage borrowers are more likely to be subject to a capital gains tax because, if the loan amount exceeds the value of the property, the difference between the loan balance and the sale price is forgiven and thus counts as additional proceeds on the sale.
Other options that should be considered
The main takeaway
Times A Reverse Mortgage Is A Good Idea
Its funny when you hear someone with a definite opinion, one way or the other about reverse mortgages that is the same no matter who youre talking about or what the circumstances are.
The choice of whether or not to get this loan isnt universally a good ideaorbad decision there are a lot of different factors that need to be considered.
But it just could be the right choice for you!
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The Bottom Line: Should You Get A Reverse Mortgage
If you can avoid getting a reverse mortgage, you should. The alternative ways to fund your retirement that weve outlined will leave you more financially stable and with a larger estate to leave to your family when you die. Additionally, losing the equity in your home increases your financial risk if the housing market were to crash, or if something were to happen that forces you to sell.
That being said, if you fully understand the product, have spoken to a financial advisor and your family, and are confident about your decision, a reverse mortgage can be a good way to fund a more dignified retirement. Just be sure to go in with your eyes open.
Alternatives To A Reverse Mortgage
If youre not sold on taking out a reverse mortgage, you have options. In fact, if youre not yet 62 , a home equity loan or HELOC is likely a better option.
Both of these loans allow you to borrow against the equity in your home, although lenders limit the amount to 80 percent to 85 percent of your homes value, and with a home equity loan, youll have to make monthly payments. With a HELOC, payments are required once the draw period on the line of credit expires.
The closing costs and interest rates for home equity loans and HELOCs also tend to be significantly lower than what youll find with a reverse mortgage.
Aside from a home equity loan, you could also consider:
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Loan Limits For Reverse Mortgages
Many people don’t understand that they are not allowed to borrow 100 percent of their property value. That’s because reverse mortgage balances don’t decrease over time. They go up. Lenders require an equity cushion to prevent the loan balance from overtaking the property value. If your lender allowed you to borrow against the entire value of your home, your mortgage would be underwater almost immediately.
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