The following piece is an excerpt from Wade Pfau's book, Reverse Mortgages: How to Use Reverse Mortgages to Secure Your Retirement. He will be joining Tim Jackson and John Salter for the “A New Look at Reverse Mortgages” session at the 8^th Annual Inside Retirement conference in Dallas on May 11-12.

If, after considering other housing options, you have decided to remain in an eligible home or to move into a new eligible home, you may want to consider a Home Equity Conversion Mortgage (HECM—commonly pronounced “heck-um”)—more commonly known as a “reverse mortgage”—as a source of retirement spending. The vast majority of reverse mortgages in the United States are HECM reverse mortgages, which are regulated and insured through the federal government by the Department of Housing and Urban Development (HUD) and the Federal Housing Authority (FHA). Other options outside of the federal program pop up occasionally, like jumbo reverse mortgages for those seeking amounts that exceed federal limits. The HECM program includes both fixed-and variable-rate loans, though fixed-rate loans only allow proceeds to be taken as an initial lump sum, with no subsequent access to a line of credit. We will not concern ourselves with fixed-rate or non-HECM loans here. Instead, we will focus only on variable-rate HECM options.

In the past, any discussion of reverse mortgages as a retirement income tool typically focused on real or perceived negatives related to traditionally high costs and potentially inappropriate uses of these funds. These conversations often include misguided ideas about the homeowner losing the title to their home and hyperbole about the “American Dream” becoming the “American Nightmare.” Reverse mortgages are portrayed as a desperate last resort.

However, developments of the past decade have made reverse mortgages harder to dismiss outright. Especially, since 2013, the federal government has been refining regulations for its HECM program in order to:

• improve the sustainability of the underlying mortgage insurance fund,

• better protect eligible non-borrowing spouses and

• ensure borrowers have sufficient financial resources to continue paying their property taxes, homeowner’s insurance, and home maintenance expenses.

The thrust of these changes has been to ensure reverse mortgages are used responsibly as part of an overall retirement income strategy, rather than to fritter away assets.

On the academic side, several recent research articles have demonstrated how responsible use of a reverse mortgage can enhance an overall retirement income plan. Importantly, this research incorporates realistic costs for reverse mortgages, both in relation to their initial upfront costs and the ongoing growth of any outstanding loan balance. Quantified benefits are understood to exist only after netting out the costs associated with reverse mortgages. This research is the focus of chapter six.

In short, well-handled reverse mortgages have suffered from the bad press surrounding irresponsible reverse mortgages for too long. Reverse mortgages give responsible retirees the option to create liquidity for an otherwise illiquid asset, which can, in turn, potentially support a more efficient retirement income strategy (more spending and/or more legacy). Liquidity is created by allowing homeowners to borrow against the value of the home with the flexibility to defer repayment until they have permanently left the home.

The media has been picking up on these developments as of late, and coverage is improving. But the trend of positive coverage is still a new phenomenon, and with so much pre-existing bias, it can be hard to view reverse mortgages objectively without a clear understanding of how the benefits exceed the costs. To understand their role, it is worth stepping back to clarify the retirement income problems we seek to solve. My next column will provide an overview of how reverse mortgages can fit into a retirement income plan. 

Wade D. Pfau, Ph.D., CFA, is a professor of retirement income in the Ph.D. program in financial services and retirement planning at The American College in Bryn Mawr, Pa. He will speak on reverse mortgages at Financial Advisor's Inside Retirement conference in Dallas on May 11. He is also a principal and director at McLean Asset Management and the chief planning scientist for inStream Solutions. He actively blogs at RetirementResearcher.com.