The ABC's of Reverse Mortgages

Reverse mortgages have been around for a decade but their popularity remains low. The primary reason seems to be home owner's reluctance to take any chance when it comes to their abode. Reverse mortgages are also confusing, complex, and expensive, making them an option of last resort in the minds of homeowners.

How they work.

A reverse mortgage is like a home equity loan with no payback schedule. Instead of having a mortgage you make payments on you have a mortgage that provides income to you. You can choose to take a lump sum payment, a credit line to draw on, or set up a payout schedule much like an annuity. No payments are due as long as you live in your home, however, interest accrues as you access the funds.

Contrary to common perception, the lender doesn't take your home automatically when the loan comes due. Heirs may refinance or sell the home to pay off the balance, life insurance benefits could provide funds to pay off the balance, or the heirs could just use cash to repay the balance if they want to keep the property. If the house is worth less than the amount due, you or your heirs will only owe the lender what the house can sell for.

Costs

Reverse mortgages are expensive. You can expect to pay 6% to 8% of your homes value at the time of loan origination to cover HUD insuring the mortgage, closing costs, and lender fees. Fees are usually rolled into the mortgage so you do not see an out of pocket expense, but it does increase you borrowing costs and decrease the money available for you to access.

For more information see AARP and this item from the Federal Trade Commision.

The "new math" of the distribution phase

American Funds has issued a new white paper discussing the distribution phase of an investment portfolio. It brings to light some interesting points and is well worth the read. To access the report please click here.

Stamps Prices Increase Again This Month

The US Postal Service has announced yet another increase in the price of a postage stamp. This is old news but I bring it up to illustrate how inflation can erode our buying power. Take a look at the images on the left. In 1976 a first class stamp cost only 20 cents, later this month it will reach 41 cents. That is a little over double the cost in the last 31 years. Some of you may remember all these stamps, for some it will represent a span of time longer than their years on earth. No matter, the point is this period of time represents relatively benign inflation rates. A postage stamp has averaged just a 2.3% inflation rate over this last 31 years yet
your cost of living has doubled. Even small inflation rates can be
devastating over the span of a human life. So what can you do
to protect yourself?

You should understand that real return (gross return after taxes and inflation) is the true measure of your progress. If you are currently earning 5% on a CD or money market account your after inflation return is about 2.5%. If you earn 10% from a stock investment your after inflation return is about 7.5%, about three times the after inflation return of a fixed income investment.

If you are retired and living on a fixed income portfolio you can only spend around 2.5% of your portfolio value each year. The rest has to be reinvested just to keep you even with inflation, or else you should
expect to eat half as much 31 years from now!

Converting your investments from the accumulation phase to the income phase does not mean things get easier, in fact providing a reliable long term income stream from your investments is more challenging than accumulating those assets to begin with.