Bridging the Gap Between Living Expenses and Social Security Income with a Reverse Mortgage
Planning for and maintaining retirement can seem like a difficult task, especially when it comes down to the finances of it. Figuring out how to bridge an income gap between living expenses and Social Security is a common problem for:
- Seniors under age 70 who are ready to retire but don’t want to take Social Security until age 70 (when benefits are maximized)
- Retirees who are looking for solutions to alleviate the burden of recent inflation
- Seniors who are ready to retire and take Social Security, but feel they need to put off retirement until they save more
If this sounds like any of your clients, then let’s take a look at how a reverse mortgage can bridge this gap, and how it compares to some alternative solutions:
Solution 1:
Getting a Reverse Mortgage
Nearly 80% of senior households own a home, making a reverse mortgage a very real option for bridging a gap between Social Security and expenses. Whether your client owns their home outright, or has a traditional mortgage on it, a reverse mortgage can be an asset in their retirement strategy.
By using the equity in your client’s home, a reverse mortgage makes payments to the homeowner in the form of a lump sum, line of credit, monthly payments, or a combination.
- A lump sum is paid outright in full, and the borrower has free rein to do what they’d like with the money. This could mean utilizing it immediately, placing funds in a variety of savings accounts, or a bit of both.
- With a line of credit, the borrower can take money as needed. For someone looking to bridge an income gap from retirement age to their Social Security max benefit age, a line of credit may be a good option for them as they can withdraw from it during that gap with a modified-term payment, and then see any unused credit grow at the same rate as their interest rate, making more funds available for them to tap into if needed down the line.
- Monthly payments can be scheduled and planned to last the duration of the borrower’s life, so they won’t have to worry about “outliving” their funds. Scheduled payments and access to the line of credit are not affected by the future market or economic landscape, so the borrower can have peace of mind that their income from a reverse mortgage won’t fluctuate or disappear. For someone who is already retired and looking for ways to boost their income, a reverse mortgage can be tailored to provide them with the funds they need, in the medium they want.
A big appeal of the reverse mortgage is that no mortgage payments are required;* the loan is typically paid back when the last borrower leaves the home or passes away. Additionally, one of the best features of a reverse mortgage is that it is a non-recourse loan, meaning it can only be paid back from the home and the borrower is not liable beyond the value of the home when the loan comes due. Typically, the loan is paid back through the sale of the home or refinancing the property into a traditional mortgage.
*Borrower must pay property taxes, insurance, HOA fees and maintain the property.
EXAMPLE
- Client age: 62
- Mortgage balance: $125,000
- Property value: $800,000
- Goal: To bridge the income gap from now until their full retirement age (70) when they can receive the maximum benefits from Social Security.
- Solution: Utilize a structured reverse mortgage line of credit, called a “modified-term,” to structure a portion of their line of credit so that it pays them $1,000 per month over the next 8 years, until they reach 70 years old.
In this illustration, not only does the current monthly mortgage payment of the traditional mortgage get eliminated, but the client also receives a certain amount from their line of credit on a monthly basis, over the specified period of time.
By utilizing a reverse mortgage, the client bridges their income gap for those 8 years, is able to maximize their Social Security benefits, eliminates their required monthly mortgage payment,* and has access to a growing line of credit for future and emergency use.
Example uses a 62-year-old client with a $800,000 home value, receiving a total principal limit of $271,200 based on an expected rate of 6.370% (11/9/22).
See the estimated loan details here.
*Borrower must pay property taxes, insurance, HOA fees and maintain the property.
How a Reverse Mortgage Compares to Other Solutions
Alternative Solution No. 1:
Work part-time
This option is fairly straightforward in how it can help bridge an income gap between expenses and Social Security: every hour worked means more income. Some seniors may find this appealing, especially as a way to “phase out” of work and into full retirement. However, if your client is considering working and wants to receive Social Security benefits, they need to be mindful of their full retirement age. If they are not yet at full retirement age and their income is more than the yearly earnings limit, then their Social Security benefit will be reduced. If your client is of full retirement age, then their benefits will not be reduced, regardless of the income they earn.
Of course, if your client doesn’t want to work, then this isn’t a great option for them in their golden years. A reverse mortgage can get them the income they need without requiring them to work. If your client is keen on working, then this could even be an option alongside a reverse mortgage, providing two solutions to bridge the gap.
Alternative Solution No. 2:
Use savings
Another option to bridge an income gap is to utilize savings. This can mean dipping into a regular savings account, an IRA or 401(k), or even a whole life insurance policy. When considering this approach, your client should be sure to think about what withdrawals will be taxable, if any fees will apply, and they should determine the timing and amounts that would be most suitable for them.
When compared to a reverse mortgage, we start to see where this solution’s limitations are. For instance, the savings can be depleted before the person passes, whereas the funds from a reverse mortgage can be structure for a specific period of time (term) or for life (tenure). A savings account may not be as subject to the market conditions since you’ll always have the principal balance, whereas the unused portion of the line of credit can actually increase in value due to its growth rate. Income from some types of savings or retirement accounts may be taxable, whereas in general, income from a reverse mortgage is not. All clients should be advised to discuss their specific situation with their financial planner or advisor to ensure a reverse mortgage is the right financial solution.
Alternative Solution No. 3:
Deferred or immediate income annuity
Finally, purchasing an income annuity1 can be a solution to bridging an income gap, however you may have to deplete the cash or savings you have on hand to purchase it. A specifically designed reverse mortgage, can also provide a guaranteed income stream for a desired time frame, regardless of the ever-changing market or economic landscape.
With an immediate annuity, the person makes one lump-sum contribution that is converted to a steady income stream for the specified duration. A deferred annuity allows the person to make a lump-sum, or multiple contributions, during the accumulation phase and is then converted to an income stream during the specified duration.
In contrast, most reverse mortgages do not require the borrower to pay into the loan, don’t require a monthly mortgage payment,* and the income stream can be set up to continue until the borrower passes via the tenure structure. Additionally, most income annuities do not give the person access to the principal, whereas with a reverse mortgage line of credit, any payments made to the loan balance increases the available funds.
1. Deferred Income Annuity contracts are irrevocable, have no cash surrender value and no withdrawals are permitted prior to the income start date.
*Borrower must pay property taxes, insurance, HOA fees and maintain the property.
Let’s Recap
As you can see, there are a number of solutions to bridging the gap between living expenses and Social Security income for those in retirement and those preparing for retirement. When compared to some of the alternative options, a reverse mortgage solution really shines with its flexibility and versatility. It can be tailored to meet the individual needs of each client, it provides similar (and arguably better) benefits to the alternative options, and it sidesteps many of the downsides of those alternatives.
If you have a client who you think might benefit from a reverse mortgage, let’s get in touch and see how this product can help them bridge the income gap and maintain, or improve, their quality of life.
Smartfi Contributor
Our Smartfi Contributors are made up of a collective group of mortgage industry professionals, who share their personal opinions of the mortgage industry, topics, and various products. These are the express opinions of the Smartfi Contributor, and the article is based on their opinion and recommendations alone. It may not have been reviewed, commissioned or otherwise endorsed by Smartfi Home Loans, LLC.
Reverse mortgage proceeds may affect the eligibility and payments of Medicaid, SSI and similar program benefits. All clients should be advised to seek guidance on their financial situation with their financial planner/advisor. A reverse mortgage is not suitable for all clients in all situations.