I am a retired and divorced 75-year-old woman with one daughter. She will inherit what I’ve got and, believe me, she needs it.
About seven years ago, I had a catastrophic health issue that required me to be off work for over two years. I was self-employed and responsible for the salaries of about five other people. Then COVID hit! I had to sell all my investment properties, cash in my IRA and deplete my savings. I took out a reverse mortgage, and my current interest rate is 6.75%.
I have about $325,000 equity in my home currently, with a reverse-mortgage payoff amount of around $200,000. I went back to work for a few years and made some money, which I invested in TD Direct Investments, paying me 7% (an $80,000 investment) and 5.5% (a $125,000 investment).
‘I would own my home free and clear and have access to $525,000 equity should I need it.’
In total, my monthly income is $3,485 a month. I receive $2,500 per month in Social Security and $400 from my brother because I lent him money to pay off his house. I get $585 from one TD account and the other investment is a five-year annuity with three years left. I play poker and can count on an average of about $300 a month from that.
I managed to keep my home and I live a comfortable life. My question is about my daughter and my home’s accumulating debt: Would I be better off taking my investment money and paying off my reverse-mortgage balance of about $200,000? I would then own my home free and clear and have access to $525,000 equity should I need it.
My investments are only $200,000, but accessing them now would diminish the money I have to live on. But it would help my daughter out when she inherits my home. I believe I could live on my Social Security alone if I paid off the reverse mortgage, but I’m not sure this is the smartest plan for this stage of my life.
What do you think?
Retired & Divorced
Dear Retired,
Here is the choice you are facing: a home for life that is essentially guaranteed while you hold on to your current investments, or a home that is paid off while you have little or no savings or income beyond Social Security.
I have three things to say about this.
First, whatever you decide to do, do it for you and try not to plan your life and finances around your daughter’s needs. It’s hard enough trying to live your own life. Second, enlist the help of a financial adviser who can help you weigh up the costs of canceling the reverse mortgage against your finances and goals.
Third, and perhaps the most important: If you can live comfortably off your Social Security and investment income now, you can continue to build savings for a rainy day and put something in trust for your daughter, knowing that you will not get kicked out of your home for outliving the mortgage. You will only lose your home if you break the terms of the reverse mortgage by moving out or not paying the taxes, upkeep and insurance.
As you know, with a reverse mortgage, the interest is deferred and added to the value of the loan, which would, in theory, eat into your daughter’s inheritance. Interest is only charged on the amount you receive from the bank. You must, as always, include maintenance fees, home insurance, mortgage insurance and property taxes in your budget as ongoing housing costs.
You can stay in your home for your lifetime as long as you abide by the terms of the loan.
Reverse-mortgage rates tend to be slightly higher than those for home-equity loans or lines of credit, according to AARP. “If you die, your heirs will need to pay off the loan’s balance. They’ll have six months to satisfy the debt, though they may be able to get a 90-day extension. Heirs can choose to either sell the property or purchase it for 95% of its appraised value.” Your own interest rate is not ideal.
If this reverse mortgage continues for the next 10 years, you could end up accruing another $72,500 in interest, in addition to the interest already accrued. Your interest rate is almost three times the current rate of inflation. This would be added to the final amount if you decide to sell, move out or pay off the mortgage. But your house, ideally, has also increased in value.
Not only did you fight your way back to solvency after your health crisis, you held on to your home and managed to build up investments and savings as a cushion for your retirement years. Is the reason you want to own your home free and clear to prioritize your long-term financial stability, or is it to safeguard a larger inheritance for your daughter? Put yourself first.
Paying off a reverse mortgage
A brief recap: Reverse mortgages are loans available to people over the age of 62. The lender essentially pays you money and uses your house as collateral. The income is not taxable, and it won’t affect your Social Security or Medicare benefits. Because you’re borrowing money against the equity in your house, you don’t have monthly loan payments.
You can, if you choose, pay back the reverse mortgage in a lump sum, as you are thinking of doing. You could sell the house and repay the money (I don’t advise you do that without the counsel of an adviser), take out a new mortgage (although interest rates are even higher than 6.75% at the moment) or make payments on the loan to reduce the interest you will owe over time.
The income is not taxable, and it won’t affect your Social Security or Medicare benefits.
Reverse mortgages have few tax advantages. But that works both ways: Because the amount you receive is considered a loan advance and not income, it isn’t taxable, according to the Internal Revenue Service. “Generally, any interest (including original issue discount) accrued on a reverse mortgage is considered interest on home-equity debt and isn’t deductible,” the agency says.
“The lender pays you, the borrower, loan proceeds — in a lump sum, a monthly advance, a line of credit, or a combination of all three — while you continue to live in your home,” the IRS adds. “Depending on the plan, your reverse mortgage becomes due with interest when you move, sell your home, reach the end of a preselected loan period, or die.”
Overhaul your finances
It’s not a perfect arrangement. AARP cautions people about the complexities of reverse mortgages: “Avoiding foreclosure requires staying current on your property taxes, home insurance and home maintenance, and continuing to live in the home as your primary residence. It can deplete the equity that you have left to pass on to heirs,” the organization notes.
“Moreover, scams are common in the reverse-mortgage industry,” AARP adds. “In just the last few years, the Consumer Financial Protection Bureau has taken action against at least seven reverse-mortgage lenders and servicers for issues like poor communication, inadequate staffing, preventable foreclosures, and deceptive marketing and advertising practices.”
You have your investments, some of which will mature in three years, and I agree with your instinct not to dip into them unless you really have to. You would lose all future earnings on those investments by plundering them now. I would like you to get as close to being debt-free as possible, while keeping some money (say, $100,000) as a cushion.
These next 10 or 15 years are a time for you to enjoy your life and rest easy, and put your own needs first.
View this as a new beginning and a chance to overhaul your finances. You may need to cut back on your expenses, which I assume already include car insurance, property taxes, groceries, and phone and utility bills. If your income is $3,485 a month, where is the rest of the money going? You may want to consider downsizing to a smaller home.
Your daughter will inherit whatever she inherits and, given the fact that you gave your brother a lump sum to pay off his house — presumably before your own financial and health issues began — you are obviously a caring and generous person, perhaps to a fault. But these next 10 or 15 years are a time for you to enjoy your life and rest easy, and put your own needs first.
The ultimate question: Can you live off your Social Security and other income if you pay back the money you owe on your reverse mortgage? Could you rent a room to a tenant if you needed to? Would you have peace of mind if you paid off this loan? A financial adviser will help you weigh up your goals and your concerns for your daughter and understand how they square with your financial reality.
Make this decision based on finances, not emotion.
You can email The Moneyist with any financial and ethical questions at qfottrell@marketwatch.com, and follow Quentin Fottrell on X, the platform formerly known as Twitter.
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