Managing the costs and expectation of living longer
by Stephen R. Greenberg
Mr. Greenberg is a licensed Branch Manager at Reverse Mortgage Funding LLC, in Milford Mass. Since 2005, he hasworked with financial advisors, attorneys, CPAs and insurance professionals to demystify reverse mortgages, helping professionals and clients understand how the product can enhance the retirement plans of a new generation of retirees. Connect with him through e-mail: sgreenberg@reversefunding.com. Visit www.RMFHECM.com. The good news is that, thanks to advances in medical care, Americans are living longer than ever before. Unfortunately, longevity comes at a cost—and for many of your clients, it could be a significant one.
The numbers paint a sobering picture: According to the U.S. Department of Health and Human Services, about 70 percent of people over age 65 will require at least some type of long-term care services, and the cost will be hundreds of thousands of dollars1.
The best laid plans…
Without adequate advance financial planning, the simple truth is that unexpected health care needs can derail the best-laid plans. So what’s a family to do?
For many clients, Long-Term Care Insurance (LTCI) is the first logical option. It can be a good choice for many, but as with all options, it has advantages and disadvantages. It works best when clients purchase LTCI at a younger age, ideally in their mid-50s.
Premiums increase with age, and clients who are over age 60 may have missed the window to purchase affordable long-term care insurance. In addition, each year after age 60 it becomes less likely that your clients will qualify medically.
According to data published by the American Association for Long-Term Care Insurance (AALTCI), rates for a 60-year-old couple with a standard health rating average $3,381 per year combined2. The initial policy benefit for each is $164,000, based on a daily benefit of $150 and a three-year benefit period. It’s clear that this coverage may not be adequate to cover all needed care.
With the average nursing home stay estimated at nine months for discharged patients and 2.44 years for current residents—at a median annual cost of $73,000 per year—a long-term care event can be catastrophic3.
Stand-By Line of Credit
Fortunately, another practical solution for managing long-term care risk has emerged: the “standby” line-of-credit option for a Home Equity Conversion Mortgage (or HECM, commonly known as a reverse mortgage).
When used in addition to, or in place of, LTCI, it can be an effective way to support a client’s long-term care protection plan, particularly if the client is self-insured. In fact, home equity is increasingly becoming a critical component of older adults’ retirement plans.
As a percentage of home value, it rose from 39 percent in 2008 to 54 percent in 2014, giving older adult homeowners an added advantage4. And a Federal Housing Administration (FHA)-insured reverse mortgage is one way for them to access this equity as a retirement asset.
Because there are no health qualifications to meet, a reverse mortgage line of credit is a logical LTCI alternative for older-adult clients who have existing health issues. A reverse mortgage standby line of credit can be used on an as-needed basis to pay for medical bills, in-home care, home modifications, and more.
It can help make it easier for clients to afford the healthcare they need to continue living in their own homes, without having to draw down on productive invested assets—helping their portfolios last longer. Furthermore, with a married couple, the line can be used to pay for any care that’s required outside of the home, be it temporary or permanent, as long as one spouse lives in the home as their primary residence.
Credit in advance of the unexpected
This means the “healthier” spouse can remain in their home while drawing on an additional resource—the reverse mortgage line of credit—as they navigate through this challenging circumstance. Since the healthcare needs of older adults often come in the form of a sudden, unexpected event such as a fall, stroke, or heart attack, setting up the standby line of credit in advance—so funding is ready when needed—can be a sound strategy.
And the earlier the better, because of the current low-rate environment and the product’s attractive growth feature: The unused portion of a reverse mortgage credit line grows at a rate of 1.25 percent plus the current interest rate of the loan—independent of home value—as the chart shows.
So as the borrowers age, they can gain access to significantly more funds. Several academic studies at research universities such as Texas Tech have supported this approach, as have nationally recognized financial thought leaders such as Harold Evensky, CFP, AIF; Wade D. Pfau, Ph.D., CFA; and John Salter, CFP, AIFA, Ph.D.
The information being shown is for illustrative purposes only:
- Scenario is a 62-yr-old couple, with a home valued at $450,000 & no mortgage, securing a reverse mortgage line of credit (LOC). LOC will grow at 4.50% above the 1-month LIBOR (margin = 3.25% + ongoing Mortgage Insurance Premium of 1.25% = 4.50%). The initial LOC is $194,349.29; left unused, in 10 years, when they are 72 yrs. old, LOC will have grown to $322,501.95 in available funds. In 20 years, at age 82, assuming no withdrawals the amount available will be $545,257.64. The estimates shown are based on a MA property and Reverse Mortgage Funding LLC’s HECM Annual ARM as of 7/14/15; the initial APR is 4.013% tied to one-year LIBOR with a margin of 3.25%, with an expected APR of 5.650%, a 5% lifetime interest cap, and $30/month servicing fee. In this example, closing costs include an origination fee of $0, third-party closing costs of $2,988, an up-front FHA Mortgage Insurance Premium of $2,250 depending on appraised value, minus a credit of $5,112 back to the borrower at closing. Interest rates and funds available may change daily without notice.
Not surprisingly, the HECM line-of-credit option is gaining in popularity. FHA Senior Policy Advisor Karin Hill and Social Security expert Russell Settle, in a recent presentation at a National Reverse Mortgage Lenders Association (NRMLA) regional meeting, noted that in fiscal year 2015, 92 percent of reverse mortgage borrowers selected the line-of-credit option.
So how does it work?
The FHA’s HECM program was created specifically for homeowners age 62 and older. A HECM is a home-secured reverse mortgage loan that allows borrowers to access a portion of their home equity as income tax-free funds, as long as at least one of the borrowers lives in the home as their primary residence.
Funds may be taken as a line of credit, monthly tenure or term payments, a lump sum, or in any combination. For most homeowners, the best part of a reverse mortgage loan is that there are no monthly principal and interest payments required—though if clients want to make payments, they certainly may.
Repayment is deferred until the last borrower (or protected non-borrowing spouse) sells the home, moves out, or passes away. So for example, the loan becomes due if all surviving borrowers move permanently into a nursing home or assisted-living facility, or leave the home for a year.
As mentioned earlier, it can be an outstanding option for a borrower who remains in the home, to help pay for their spouse’s long-term nursing home care. And the line of credit is still in force if one borrowing spouse pre-deceases the other. As with any mortgage, the borrower continues to be responsible for property taxes, homeowners insurance, and upkeep in order for the loan to remain in good standing. Interest accrues only on the dollars used, plus any fees that are rolled into the loan—and is added to the balance due—so the loan balance grows over time.
As a non-recourse loan, neither the borrowers nor their heirs are responsible for any amount of the loan balance that exceeds the home’s value when the loan is repaid. This gives a reverse mortgage several advantages as compared to most traditional Home Equity Lines of Credit (HELOCs). In addition to the growth feature and no monthly principal and interest payments, a reverse mortgage line of credit cannot be reduced or revoked by the lender, as long as borrowers meet their previously mentioned loan obligations.
So the funds will be there if and when your clients need them. For your clients who can’t afford or don’t qualify for long-term care insurance, it could be the solution they’re looking for. Your clients may also be surprised, and relieved, to learn that there are new, lower-cost HECM products now available. For example, Reverse Mortgage Funding LLC (company NMLS ID #1019941) offers an option that eliminates nearly all closing costs. (Not available in all states. All loans are subject to approval. Certain conditions and fees apply; terms and conditions are subject to change.) In addition, recent changes to the HECM program have strengthened borrower safeguards.
New loan limitations are designed to help preserve your clients' home equity funds for a longer period of time. New underwriting requirements ensure that borrowers have the willingness and ability to meet their ongoing financial obligations, and there is added protection for non-borrowing spouses. Mandatory mortgage insurance provides additional protection. So as we’ve seen, the vast majority of your clients will require long-term care in their lifetime—and a well-designed funding plan to help them absorb its impact.
No single financial tool can meet the needs of every client, but a combination of today’s solutions and tactics can help you deliver the personalized retirement funding plan they need. As the importance of home equity for older adults continues to grow, a reverse mortgage line of credit from a trusted lender such as Reverse Mortgage Funding LLC can become another valuable tool at their disposal.
