Retirement With a Mortgage: Are You Flushing Income Down the Drain?

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Is retirement with a mortgage payment a good idea? Or is it just flushing your hard-earned retirement income down the drain? 

If you’re like many people, you may have refinanced your mortgage in the past few years to take advantage of insanely low interest rates. You may also have chosen a fixed 30-year mortgage. That’s not a bad choice, but here’s the kicker: when does that loan pay off? If you’re retired, you could spend the rest of your life paying on that mortgage and still never pay it off. Why do that if you have better options?

If you’re at least 62, retirement with a mortgage payment is not inevitable. You can potentially get rid of that mortgage payment now – without paying off the loan balance.

Meet Alice, who retired with a mortgage payment

Let me introduce Alice, a 68-year-old retired banker. Alice’s husband passed away a few years ago, so she’s living on her Social Security, a small pension, and the IRA she built up over her working years. Her Social Security and pension don’t quite cover all of her expenses, so she’s withdrawing $800/month from her IRA to cover the shortfall.

Alice is relatively comfortable, but she’s on a tight budget. She won’t let herself splurge on home improvements or travel because it will drain her IRA faster. She wants to make sure the IRA lasts at least as long as she does.

Alice enjoys her home and has no plans to sell anytime soon. She’s also not worried about leaving her home to her kids because they all have their own homes and are doing well.

Alice has a 30-year fixed mortgage that she refinanced in May 2018.  The starting loan amount was $150,000 and the interest rate is 3.75%, which means her principal and interest payment is $695.

Alice can afford the mortgage payment, but she’s essentially draining her IRA (and paying income taxes on the withdrawals) to pay her mortgage.

Even worse, she’s got 26 years left on the loan! She’ll be 94 when she makes her last mortgage payment. Alice thinks she may last that long, but it’s a sure bet her IRA won’t. She worries about running out of money.

For Alice, retirement with a mortgage payment means she’s essentially flushing her heard-earned retirement income down the drain. What’s  the point of paying on a mortgage she may never pay off anyway? Even worse, why drain hard-earned savings to pay that mortgage?

There has to be a better way, right? Fortunately, there is!

A better option

If you’re retired and have many years left on your mortgage, you may still be able to get rid of that mortgage payment. As you’ll see, retirement with a mortgage payment is not inevitable. I’ll show you how to stop flushing money down the drain on a mortgage you may never pay off anyway.

Let me introduce the FHA-insured and regulated home equity conversion mortgage, or HECM (often pronounced heck-um by industry insiders). The HECM is a unique mortgage product that enables you to get rid of your mortgage payment without paying off your current balance.

Look at it like a refinance; you’re basically refinancing your existing mortgage into a new mortgage that doesn’t require a payment. As long as at least one borrower (or non-borrowing spouse) lives in the home and pays the required property charges, no monthly mortgage payments are required.

You always retain title ownership of the home and you’re free to leave it to your heirs. Your heirs will inherit any equity remaining in the home.

The HECM is a non-recourse loan, which means FHA will cover the shortage if you owe more than the home is worth. You won’t pass a big debt to your heirs even if home values fall.

The HECM is a mortgage, so it has an annual interest rate like any other mortgage. Rates are usually pretty comparable to traditional 30-year fixed mortgage rates. If you don’t make payments on the HECM (the whole point, right?), the interest accrues onto the loan balance over time.

The equity in your home essentially makes the mortgage payment for you. This means you no longer have to spend retirement with a mortgage payment. You now have more money to spend on more important things, like grandchildren, home improvements, vacations, or just living expenses.

How it works

To see how this works in real life, let’s get back to Alice. Assuming her home is worth $375,000, Alice qualifies for a HECM principal limit of $159,750 with an interest rate of 5.32%. When the annual mortgage insurance of 0.50% is added, the total interest rate is 5.82%.

Once the closing costs and existing mortgage balance are paid, Alice has $7,700 remaining of her principal limit. She chooses to leave that in a line of credit to grow and compound based on an annual growth rate.

The HECM eliminates the $695 mortgage payment and gives Alice an extra reserve account (the line of credit) she can tap in case of unexpected expenses, such as home repairs or medical bills.

More importantly, Alice can now stop drawing down her IRA to pay a mortgage payment. This helps preserve her IRA and reduces her annual income tax bill.

For Alice, retirement with a mortgage payment is no longer inevitable! She’s no longer flushing income and savings down the drain on a mortgage she may never pay off anyway.

Let’s fast forward ten years

Let’s jump ten years into the future and see where things are at. Assuming rates don’t change and Alice doesn’t make payments or tap into the line of credit, the HECM balance will grow to $287,972. Her available line of credit will be $13,761.

As you can see, Alice’s loan balance has grown substantially in the ten years since she’s had the HECM. She’s added almost $136,000 to her loan balance. At first glance, that might sound terrible, right? But let’s not forget that Alice hasn’t made a mortgage payment for ten whole years. Her total cumulative mortgage payment savings is a whopping $83,400.

That’s $83,400 she’s kept in her pocket for other things. Instead of throwing $83K at a mortgage she’ll probably never pay off anyway (and drain her IRA in the process), she’s spent that on her grandchildren, home upgrades, a cruise to the Bahamas, etc.

Even better, that’s $83,400 that she didn’t have to drain from her IRA. That means her money will last longer, which gives her immense peace of mind.

Retirement with a mortgage payment is not inevitable

Folks, retirement with a mortgage payment is not inevitable. It’s not inevitable to spend the rest of your retirement years throwing money at a mortgage that may outlive you. The HECM is a fantastic program that can get you out of “jail” early. The HECM is not perfect for everybody, but it’s a fantastic solution for many.

If you have a lot of years left on your mortgage, the HECM can get rid of the payment years (or decades?) early. That frees up cash for more important things, such as grandchildren, travel, and home improvements.

If you’d like an estimate of how much you can get from a reverse mortgage, check out our reverse mortgage calculator. If you’d like more detailed information about how a reverse mortgage works, check out our article on reverse mortgage requirements.

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