As Markets Wobble, Will We See a Wave of Reverse Mortgages?

Reverse Mortgages -- Are we Seeing a Boom?Kameleon007/Getty Images

Over the past three months, the stock market has been on a roller coaster. Investment portfolios have followed suit, which could be particularly concerning for those who are counting on those funds for retirement.

For those close to retirement, a lack of savings may mean monthly expenses go unpaid. As a result, retirees may be considering a reverse mortgage to bring in much-needed cash.

“Retirement accounts have been suffering under the macroeconomic conditions that we see out there today. People are looking at the use of home equity to absorb some of those shocks in their retirement plans,” says Steve Irwin, president of the National Reverse Mortgage Lenders Association.

Because there’s a long lead time for a reverse mortgage, Irwin says it’s too early to tell if the numbers are up. However, a leading indicator shows we might be on the edge of a wave of reverse mortgages.

NRMLA data shows an uptick in consumers who’ve taken the initial step and completed the financial counseling needed to proceed with a reverse mortgage. Irwin says counseling sessions in the month of March were up 25% compared with the year before.

Before homeowners can apply for a reverse mortgage or complete a final application, they must complete independent third-party counseling, he notes, adding that those counseling sessions are up significantly in the first quarter.

Historically, those counseling sessions had to be done in-person, but because of the COVID-19 pandemic, some states have allowed online sessions.

Reverse mortgage basics

Since the first reverse mortgage in 1990, over a million have been issued and currently about 550,000 are outstanding, according to the NRMLA. Unlike a forward mortgage, in which you pay down a loan to live in your home, a reverse mortgage draws from the equity you’ve built up in your home.

To qualify for a reverse mortgage you must meet the following criteria:

  • Be aged 62 or older
  • Own your property outright or owe a small amount on a traditional mortgage
  • Live in the home as your primary residence
  • Not be delinquent on any federal debt
  • Meet with an approved counselor

Most reverse mortgages are backed by the Federal Housing Administration as part of the Home Equity Conversion Mortgage program. Once approved, a borrower can withdraw funds as a lump sum, a fixed monthly amount, a line of credit, or a combination of these options. The loan comes due when the borrower either moves out or dies.

And although the instant hit of cash may be a welcome development, the homeowner is still responsible for other monthly payments.

“Keep in mind with reverse mortgages … you still have to have the financial resources to live in the house,” says Mary Bell Carlson, the accredited financial counselor behind the Chief Financial Mom. “You’re going to be living in the house, you still owe the property taxes, you still owe the insurance, the HOA, and all the maintenance on the home while you’re living there.”

One other note: As with a traditional mortgage, there are fees and upfront costs.

Is now a good time for a reverse mortgage?

Keep in mind, a reverse mortgage will hand you money, but the lender uses the equity in your home to give you that money.

“The amount of funds available through a reverse mortgage are calculated based on the age of the borrower, or in the case of a couple, the youngest person’s age, the home’s value, and the interest rates in effect at the time,” Irwin explains. “The lower the interest rate, the greater percentage of equity that can be made available.”

Currently, interest rates are at historic lows.

“We understand a lot of people have been looking at the reverse mortgage and just haven’t decided whether or not to move forward. But they understand that responsible use of home equity can absorb different shocks to people’s income streams,” Irwin says.

Another pandemic-related factor in play? Nursing homes and assisted-care facilities aren’t exactly an appealing option in the current climate. This may partly be why some seniors are opting to stay put in their own homes.

“We know that people want to age in place, and I think many senior homeowners who may have been considering moving or moving to a care facility are almost hesitant and reluctant to go anywhere right now,” says Irwin.

Before contemplating a reverse mortgage in the current environment, you must consider if you can still pay the expenses that come with owning a home. Lower interest rates will mean more cash in your hand, but if you don’t have funds set aside to cover needed repairs, maintenance, and other expenses of homeownership, pause for a moment to suss out your best option.

“A [reverse mortgage] doesn’t mean that [borrowers] just live scot-free in the home. They still have to have some kind of cash flow to keep up the home, and they can’t let the home fall into complete disrepair. That is a violation of the contract, and they could lose the house for that,” Carlson says.

Irwin says the answer depends on each homeowner’s situation.

“This is an individual case-by-case decision, and we want to ensure that it is a decision that’s carefully considered and discussed with trusted advisers and family members. But from strictly the available amount of proceeds given the current interest rate, yes, it is a good time.”

The future of reverse mortgages

Irwin says he expects more seniors to look at reverse mortgages as the pandemic-fueled financial crisis continues.

“It’s a needs-based transaction. They need to augment their financial stability,” Irwin explains. “They need to augment whatever retirement funding they have in place, or they need to relieve themselves of the burden of monthly principal and interest payments of a regular mortgage. I think that we will see more and more the use of the reverse mortgage as part of a more comprehensive financial plan in retirement.”

The post As Markets Wobble, Will We See a Wave of Reverse Mortgages? appeared first on Real Estate News & Insights | realtor.com®.

Source: realtor.com

How Tapping Home Equity Can Pay the Taxes on a Roth IRA Conversion

Single Family Home with Beige Clapboard Exterior and Trees in Autumn Colors (Foliage) in Sleepy Hollow, Hudson Valley, New York. OlegAlbinsky/iStock

The benefits of incorporating a Roth IRA into your retirement strategy are often praised by financial advisers, citing the ability for money to grow tax-free for decades and provide tax-free income in retirement. While a Roth IRA conversion is one way to take advantage of this savings tool, the tax implications of converting investments from a traditional retirement account to a Roth IRA typically deter most people. Yet the effects of new legislation and persistent market volatility make a Roth IRA conversion worth considering, and paying for it doesn’t have to break the bank.

A Roth IRA conversion uses assets from a traditional or rollover IRA, 401(k), SEP or Simple IRA to fund a Roth IRA. Unlike regular contributions to a Roth IRA, which are constrained by income limitations and annual contribution caps, there are no restrictions when converting retirement assets to a Roth IRA. Any amount can be converted regardless of your age, income, or employment status. But the Roth IRA conversion doesn’t come without a cost.

When you convert pre-tax assets in a traditional retirement account to your Roth IRA, the conversion is treated as income and you must pay taxes on the assets converted. The amount you pay in taxes depends on your income tax bracket for the year. In some cases, a substantial conversion in one year could boost taxable income by multiple brackets. To help manage that liability, a series of partial conversions over several years could be planned to keep the distributions within a targeted tax bracket.

For many retirees, income from a traditional IRA or 401(k) can create a tax headache, especially when required minimum distributions (RMDs) raise their tax bracket. That’s where a Roth IRA comes in.

A Roth IRA provides the flexibility to take tax-free withdrawals in retirement when you want and in whatever amount you want. This is unlike other retirement accounts that have RMDs beginning at age 72. The RMDs are taxable income, which means that in addition to your tax bracket they can also impact your Medicare premium bracket and the taxation of your Social Security benefit, whereas distributions from the Roth IRA will not.

This year the CARES Act temporarily pauses RMDs from traditional retirement accounts. So, if you are 72 or older and you don’t take your RMD then your income will be lower. This provides a potential opportunity to make a larger conversion while maintaining the same income tax rate.

Additionally, since the Secure Act of 2020 eliminated the stretch provisions for inherited retirement plans, the Roth IRA is also a great estate planning tool. Non-spousal heirs can no longer take distributions over their life expectancy, but rather all distributions must be taken within 10 years. While this is true as well for an inherited Roth IRA, the distribution would not be a taxable event.

The cost of an IRA conversion can be daunting, but it doesn’t have to be. Conventional wisdom is to pay the resulting tax bill with non-taxable assets from outside the retirement plan. Using plan assets would defeat the purpose of the conversion as you will permanently give up a portion of the capital that is accumulating on a tax-free basis. In addition, if you’re under age 59 ½, the portion of plan assets used to pay for the conversion could also be subject to a 10% tax penalty.

If you have the cash on hand, that’s likely the best way to cover the tax implications. But depending on the size of the conversion and your tax bracket, the up-front costs could be significant. Another option is to take out a loan against your life insurance policy. While this permanently reduces the policy value if not repaid, the loan doesn’t count as taxable income so long as the policy isn’t surrendered, doesn’t lapse, and the amount owed doesn’t exceed the premiums paid. If any of these do occur then the tax implications will likely be even larger than the taxes paid on the Roth IRA conversion.

Considering a reverse mortgage

Alternatively, tapping into your home equity can provide the means to pay the taxes. You could leverage current low interest rates and get a home equity line of credit (HELOC), though many banks have stopped accepting applications for HELOCs in recent months. Additionally, a HELOC will require a monthly mortgage payment, decreasing your cash flow.

For homeowners age 62 or older, a reverse mortgage could pay the tax liabilities from the Roth IRA conversion, creating tax and cash-flow flexibility and potentially a higher net worth.

With a reverse mortgage, the available line of credit grows and compounds at a value that is tied to current interest rates. This can be particularly beneficial with a series of partial Roth IRA conversions as it provides a growing resource to pay future tax bills. The line of credit also provides flexibility to convert a greater portion of your retirement assets during market plunges, so you only pay taxes on the lower value at the time of the conversion and not on any gains in the Roth IRA when the markets recover.

Since there are no principal or interest payments required for as long as you live in your home, the line of credit from a reverse mortgage provides the liquidity to pay for the Roth IRA conversion with no impact on household cash flow or the need to sell other invested assets.

A good rule of thumb is to use a reverse mortgage if your home equity is less than or equal to the value of the retirement assets you plan to convert. If the home represents a major portion of your net worth, a reverse mortgage may not be the best option to cover the tax bill. In this case, the reverse could better serve as a tax-free source of supplemental income, or to pay for in-home care, or other retirement expenses that distributions from the smaller invested assets may not be able to cover.

Evaluating the use of a reverse mortgage also depends on the projected costs in comparison with the projected returns. For example, if interest rates on a reverse line of credit are at 3%, and your home appreciates at a 3% rate, you could borrow 50% of your home equity and still maintain a 50% retained equity position throughout the duration of the loan. Even if the home only appreciated at a 1% rate, you would still have a retained equity position.

Projected returns on the Roth IRA conversion would also need to be evaluated. For simplicity’s sake, let us assume you borrow a total of $250,000 from your reverse line of credit to pay the tax bills on $1 million conversion. If you accrue interest on the line of credit balance at a 3% rate and the Roth IRA grows at a 6% tax-free rate, the return could be quite compelling over time.

Of course, there are no guarantees on any projections, which is why you should consult a financial professional and evaluate your specific situation. A number of “what if” scenarios should be considered including changes in interest and tax rates, home and investment growth rates, and legacy desires. These considerations will help determine if using a reverse mortgage to take advantage of the benefits of a Roth IRA conversion could be a retirement strategy that makes sense for you.

The post How Tapping Home Equity Can Pay the Taxes on a Roth IRA Conversion appeared first on Real Estate News & Insights | realtor.com®.

Source: realtor.com