If you end up owning a home during the decades of your adult life, you should have some decent equity built up by the time you reach retirement. Should you count that equity towards your retirement financial resources?

I say you can if you're willing to tap that equity, which you can do by selling your home and trading down to a less costly property. But, what if you want to stay in your home? You could take out a reverse mortgage.

Reverse mortgages, which enable you, through a loan, to receive tax-free income on your home's equity while still living in the home, fill a void and are just beginning to tap into growing demand. The lender pays you - via lump sum, monthly payments or with a credit line - and the accumulated loan balance and interest is paid off when your home is sold or you pass away. The typical borrower: a 70-something widow who's running out of money, wants to stay in her home and needs money for basic living expenses or to replace a leaky roof.

With their high up-front costs, though, the effective interest rate on most reverse mortgages easily jumps into the double-digit realm if you only stay a few years into the loan. And reverse mortgages can be complicated to understand and compare. Your effective interest rate varies greatly depending upon: how long you're in the home and using the loan, the timing and size of payments you receive, and your home's value over time. One unknown that you can't control is if an extended nursing home stay keep you out of your home for 12 months and forces the sale of your home. In such a situation, at least the proceeds from the sale could be used towards the nursing home.

 

Qualifying for a Reverse Mortgage

To qualify for a reverse mortgage, all the home's owners (coop apartments generally aren't eligible) must be at least 62 years old and use the home as their principal residence. Any outstanding debts against the home must be extinguished.

Unlike a traditional mortgage, you need not have any income or even good credit to qualify for a reverse mortgage. And, unlike a conventional mortgage, reverse mortgages are non-recourse loans - you can't lose your home for failing to make payments since there are none.

Many retirees I speak with say that taking out a reverse mortgage was a good experience for them. Often cited are feeling that the extra income allowed keeping up a home's maintenance and paying medical and other costs, not having to scrimp so much on things like eating out sometimes and provided peace of mind not having to make payments.

Is a Reverse Mortgage for You?

Start with the non-financial considerations - your desire to keep your current home and neighborhood and your comfort level with the size of your home and the associated upkeep. Consider if you wish to stay in your home for the foreseeable future or would you rather tap into your home's equity by moving and downsizing to a smaller home or simply renting.

Don't keep your situation and concerns a family secret. "Discuss within your family to get everybody thinking and talking about a range of options," advises Ken Scholen, a reverse mortgage expert.  You may also be able to enhance your monthly cash flow by taking advantage of local property tax deferral and relief programs for seniors - check with your local tax assessors office for details.

Part of the appeal of a reverse mortgage is the lack of attractiveness of alternatives if you'd like to stay in your home. With a home equity loan, the big challenge is the required payments. Home equity loans are recourse loans and if you're unable to keep up with payments later in retirement, the lender can foreclose. Also know that any money invested generating investment income would be taxed. Given the lack of risk taking desires of most seniors with their investments, invested home equity money would be unlikely to generate high enough returns to cover the loan's interest costs.

In addition to using AARP's useful web tools, take advantage of the increasing numbers of free, independent reverse mortgage counselors around the country - call 800-209-8085 and ask for counselors in your area.

The market for reverse mortgages is getting increasingly competitive as there are more lenders coming into the marketplace and some regulatory changes have led to reduced up front fees.

 

Copyright Eric Tyson, 2008 - 2010 all rights reserved.

Eric Tyson is the only best-selling personal finance author who has an extensive background as an hourly-based financial advisor and who does not accept speaking fees, endorsement deals or fees of any type from companies in the financial services industry or product or service providers recommended in his articles, books and his publications.