This study outlines recent changes in the reverse mortgage market and attempts to shed light on two simple questions:
- Which client-specific and capital market factors should a practitioner emphasize; and
- Based on these critical factors, how does early or delayed establishment influence whether a reverse mortgage can improve the probability of clients’ maintaining their retirement spending goals?
Many retirees and advisers resisted reverse mortgages in the past because of high costs (Chiuri and Jappelli 2010). However, research such as Boston College’s National Retirement Risk Index 2010, has noted that many future retirees will not be in a position to avoid using home equity in retirement.
Other research has shown that seniors will increasingly turn to reverse mortgages, because more affordable reverse mortgage options are now available than in the past (Timmons and Naujokaite 2011). If more seniors consider reverse mortgages, a number of these retirees are likely to seek advice on whether to establish the reverse mortgage now, or later as a last resort.
- This study outlines recent changes in the reverse mortgage market and investigates plan survival rates for distribution strategies that establish a Home Equity Conversion Mortgage (HECM) reverse mortgage line of credit at the beginning of retirement and as a last resort.
- Calculations were based on Monte Carlo simulations using a 4 percent to 6 percent real withdrawal rate, in 1 percent increments, for a client who has a $500,000 nest egg and $250,000 in home equity at the beginning of retirement. The nest egg was split into a 60 percent stock and 40 percent bond investment portfolio alongside a six-month cash reserve.
- Results are shown for scenarios where the HECM line of credit is established during:
- (1) low interest rates at age 62,
- (2) low interest rates when the investment portfolio is exhausted,
- (3) moderate interest rates when the investment portfolio is exhausted, and
- (4) high interest rates when the investment portfolio is exhausted.
- Early establishment of an HECM line of credit in the current low interest rate environment is shown to consistently provide higher 30-year survival rates than those shown for the last resort strategies. The early establishment survival advantage for real withdrawal rates at or above 5 percent is estimated to begin between 15 and 20 years after loan origination and is shown to be as high as 31 percentage points, or 85 percent, greater than the last resort survival rates.