Lately, reverse mortgages have been getting more respect from academic researchers and financial planning journals. Many people think a reverse mortgage is to be used as a tool of last resort. However, recent research has shown that they can be more valuable if taken earlier in retirement to decrease the amount of withdrawals needed from your brokerage account.
Let’s look at an example:
I have clients (a married couple) who have approximately $1.5 million in investible assets. My financial planning software calculated that they have a 75% chance of success (not running out of money) based on their projected life expectancies, how much they plan to spend each year, their income from Social Security and pensions, and the projected returns/volatility of their investment portfolio.
They do not want to cut their spending, but they are not comfortable with a 75% probability of success. Our software ran 10,000 random iterations of potential outcomes (Monte Carlo analysis). The projections show that 25% of the time they would run out of money, but 75% of the time they have money left over and the median ending balance of their brokerage accounts after 30 years is $2.4 million.
The projected return over the 30-year period is the same in all scenarios. The difference between a great outcome and a disastrous one is based on whether the good years come early or late in their projected 30-year retirement.
Now, suppose the couple in the above example has a mortgage of $1,500 a month (principal and interest), which has another 13 years before it would have been paid off. If they used a reverse mortgage to eliminate payments, their probability of success increases to 86%. The median ending balance for their investible assets also increases from $2.4 to $3.2 million in this case. When the final spouse passes away, the house would get sold, the reverse mortgage would be paid off, and any remaining home equity would also pass to the beneficiaries. The reverse mortgage can reduce financial stress and/or improve a retiree’s standard of living.
How does the reverse mortgage effect your beneficiaries?
The ultimate beneficiaries of the couple in the above example may inherit less as a result of the reverse mortgage, but they could end up inheriting more based on the higher projected value of their brokerage account.
The reverse mortgage is even more compelling if a retiree does not have beneficiaries or is not concerned about leaving money behind. Like most financial tools, reverse mortgages are not always good or always bad. They have their place. It is worth noting that many financial journals and researchers are finding that reverse mortgages are a tool that are underutilized and are likely to become more mainstream over the coming decades.