September 13, 2022
Reverse mortgages are marketed as an easy way to get tax-free cash in retirement. There are often better alternatives, such as downsizing, though. Discover why reverse mortgages may be too good to be true here.
Reverse mortgage advertisements often promise financial freedom for homeowners aged 55 and older. These ads paint a rosy picture: unlock your home’s equity, enjoy extra income, and live stress-free in retirement. But is it really that simple?
While reverse mortgages can provide immediate cash flow, they come with significant drawbacks that the commercials rarely mention.
There are often better options available, and many Canadians turn to reverse mortgages without fully understanding the potential risks. Before considering a reverse mortgage, it’s crucial to explore all your options.
For people who need extra cash later in life, a reverse mortgage allows you to get money from your home equity without having to sell your home.
A reverse mortgage is essentially what it sounds like. In a normal mortgage, you make payments to a bank or mortgage lending company who lent you money to buy a home. In a reverse mortgage, the lender pays you for the home you already own, much like a refinancing agreement.
How much can you borrow in a reverse mortgage? You can borrow up to 55% of the current value of your home, based on a few conditions such as your age, the value your home, and the lending company you choose.
As for repayment, you are not required to pay back the loan until you move out of your house, sell it or when the last borrower on your house title dies.
You will owe more interest though the longer you go without making payments if that’s the route you choose.
Other payment options are available depending on what company you get the reverse mortgage from. These can include choosing to make payments on the interest only or paying amounts that cover both interest rate and some of the principal of the loan as well.
In order to qualify for a reverse mortgage in Canada, you must be a homeowner over 55 years old. On your application you must also include the names of everyone listed on your home’s title, who must also be at least 55 years old.
Other factors will also be considered when approving you for a reverse mortgage. These include:
The home you’re refinancing with a reverse mortgage must also be your primary residence, meaning you live there at least six months of the year. You can’t simply use your cottage property for a reverse mortgage while continuing to live somewhere else most of the year.
You and the other people listed on the title of the home may also be asked to get independent legal advice by the lender. You may then be required to provide proof of this legal advice to the lender.
Reverse mortgages appeal to many seniors because they appear to offer unique benefits. Here are reasons someone might consider taking out a reverse mortgage:
With a reverse mortgage, you remain the legal owner of your home. Unlike selling your property outright, a reverse mortgage allows you to stay in your home for as long as you wish, provided you meet the loan’s conditions, such as maintaining the property and keeping up with insurance and taxes.
You are not required to make monthly payments on a reverse mortgage. Repayment is only required when you sell your home, move out permanently, or pass away. This can provide financial breathing room for retirees living on a fixed income.
The money you receive from a reverse mortgage is not considered taxable income by the Canada Revenue Agency (CRA). There are no restrictions on what the money from a reverse mortgage can be used for.
A reverse mortgage is a non-recourse loan. If you are unable to pay back the loan, the lender cannot come after other assets to make up for it.
With a reverse mortgage, you can choose how to receive the funds: as a lump sum, regular monthly payments, or a line of credit. This flexibility allows you to tailor the loan to your financial needs.
While these benefits may make reverse mortgages seem like a convenient solution, it’s important to weigh them against the potential drawbacks.
While reverse mortgages can be appealing, they come with significant downsides. Here are the key reasons you should avoid a reverse mortgage.
Reverse mortgages often come with higher interest rates than traditional mortgages or home equity lines of credit (HELOCs). These rates can significantly increase the total amount you owe over time, especially since the interest compounds. This means your home equity could erode faster than you expect, leaving less financial flexibility in the future.
A reverse mortgage directly affects the amount of inheritance you leave behind. You must repay the loan in full, including accrued interest, when you sell the home or pass away. In many cases, this forces your heirs to sell the property to settle the debt, leaving them with little to no inheritance from the home.
You may have noticed that you often see the same few reverse mortgage ads over and over. That's because very few lenders in Canada offer this product. The lack of competition means it's difficult to shop around and get the best deal.
Although you don’t make monthly payments on a reverse mortgage, you are still responsible for maintaining the property, paying property taxes, and home insurance. Failure to meet these obligations can result in foreclosure, putting your home at risk despite the loan’s initial appeal.
Reverse mortgages can drain your home equity quickly, leaving you with fewer financial options in the future. If you need to access additional funds later or if housing market values decline, you may find yourself in a precarious financial position with limited resources.
If you pass away before the loan is paid back, the estate will be responsible for repayment. If you have children who choose to sell your house after your passing, they will be responsible for handing back the balance of the loan plus interest to the lending company.
If you are a co-borrower and your spouse dies, the terms of the reverse mortgage remain the same. However, after the borrowers’ death, the full amount must be repaid with interest. The repayment period of the loan will be set by your lender.
The main reason someone takes out a reverse mortgage is to access extra funds. While the people in reverse mortgage commercials make it seem like the best decision you could possibly make, there are often better ways to get access to money without the long-term drawbacks of a reverse mortgage.
Downsizing involves selling your current home and purchasing a smaller, more affordable property. This option allows you to unlock the equity in your home while avoiding the high-interest rates and fees associated with a reverse mortgage.
A HELOC lets you borrow against your home equity as needed, like a credit card but with much lower interest rates. You only pay interest on the amount you use, making it a flexible and cost-effective option.
Refinancing your existing mortgage can provide you with extra cash by increasing your loan amount based on your home’s equity. This option may be ideal if you have a low-interest mortgage or want to consolidate debt.
For those who no longer need or want the responsibility of homeownership, selling your home and renting a smaller property can provide financial relief and greater flexibility.
Using a reverse mortgage to pay off debt when you’re retired and lack income may seem like a convenient solution, but it often creates more financial problems than it solves.
While it can provide immediate cash to clear existing obligations, the high interest rate and the cost of paying the loan back will likely land you and your heirs in more debt long-term.
If you’re struggling with debt in retirement, a Licensed Insolvency Trustee can offer a more sustainable and affordable solution. Licensed Insolvency Trustees are Canada’s only federally regulated debt professionals. They adhere to strict ethical guidelines and are trained to help you manage your financial challenges.
A Licensed Insolvency Trustee can explain all available debt relief options, including a consumer proposal, which can reduce your monthly payments and protect your assets—including your home.
A Trustees role is to help you find the best solution for your debt challenges—not to sell you services you don’t need. You can trust them to provide clear, transparent, and unbiased advice.
September 13, 2022
Reverse mortgages are marketed as an easy way to get tax-free cash in retirement. There are often better alternatives, such as downsizing, though. Discover why reverse mortgages may be too good to be true here.
