Do We Need To Take Out A Reverse Mortgage To Ensure Our Money Outlasts Us?

Do we need to take out a reverse mortgage to make sure our money outlasts us? That is the question married couple Grace,* 76, and Joe, 75, are trying to answer.

Based in British Columbia , they are comfortably retired but concerned about the increasing cost of living . They attended an information session about reverse mortgages and are interested in how they might put it to work for them to provide peace of mind and fund four bucket list trips they hope to take in the next few years. At the same time, they are not sure whether they actually need to take this measure.

Grace and Joe have lived in their home for nearly 40 years and would like to stay there for as long as possible. It is valued at about $2 million. They have a $117,000 mortgage at 4.05 per cent for the next five years that costs them $1,400 a month. Their total monthly expenses are $6,500. The mortgage is their only debt.

“I understand that we could take out a reverse mortgage worth up to 55 per cent of the value of our property, but we don’t want that much,” said Grace. “Ideally, we’d like about $300,000 to pay off our current mortgage and penalty costs for early repayment, deferred property taxes of $70,000, and set-up costs for the reverse mortgage, which will be at the higher interest rate of 6.59 per cent for five years. The rest would be used for travel.”

In addition to their primary residence, the couple has a lakefront property valued at about $300,000. While they would like to sell it, they plan to keep it for their three adult children who vacation there. “They all have young families and big mortgages, and are not in a position to buy it from us.”

The couple has about $330,000 in registered retirement income funds (RRIFs) and about $32,000 in tax-free savings accounts (TFSAs). They draw down the minimum required amount from their RRIFs (about $18,940 in 2024) and contribute a portion of that money to their TFSAs, which they only recently started. They also have a $120,000 life insurance policy to cover the capital gains on the lake property.

Grace and Joe have a monthly income of about $9,400 that includes two employer pensions (about $4,100); rental income ($1,800) from a suite in their home; Canada Pension Plan (CPP) benefits (about $1,900); and Old Age Security (OAS) payments (about $1,600). Their RRIF withdrawals are in addition to this base income, which is why they aren’t sure they actually need to take out a reverse mortgage.

“We don’t lead an extravagant lifestyle and we’re both in good health,” said Grace. “We would very much appreciate some advice.”

What the expert says

“Reverse mortgages have higher interest rates and setup fees than typical mortgages. People typically employ them when they don’t qualify for a regular mortgage large enough for what they need, can’t afford a mortgage payment or they feel safer knowing they will never have to make a payment even if they live very long,” said Ed Rempel, a fee-for-service financial planner, tax accountant and blogger. “None of these reasons apply to Grace and Joe, who are living comfortably on their pensions and rental income without the need to spend their RRIF income.”

Many people have a perception that a reverse mortgage is like “free money,” since you don’t need to qualify and you never have to make payments, Rempel said. “However, it compounds with interest and fees added and reduces the proceeds you or your heirs get from your home when you sell it. Grace and Joe have three children so even if they don’t sell their home during their lives, the accumulated value of the reverse mortgage would reduce their estate for their kids.”

He pointed out a $300,000 reverse mortgage at 6.59 per cent would have interest of $1,648 a month, which is more expensive than a traditional four per cent mortgage that would cost $1,000 a month. Also, a reverse mortgage would incur setup fees of $2,000 to $4,000 or more – and the couple wouldn’t be mortgage-free, he said. “A reverse mortgage is still a mortgage.”

If Grace and Joe want to stop making their current mortgage payments, Rempel said they could apply for a secured credit line for as much as they qualify for. Based on their combined income of $132,000 before tax, he expected they should be able to qualify for $600,000. This would mimic a reverse mortgage and allow them to combine all their debts and cover the interest on the line of credit for at least 20 years. Having a credit line pay its own interest is called “capitalizing the interest,” Rempel said.

However, he recommended they keep their existing mortgage until it comes due and only get a line of credit large enough to comfortably cover their bucket list trips: $100,000 to $150,000. “A secured credit line works for this because the trips will likely take place over several years. With a credit line, they are not charged interest until they spend it.”

Then, when their mortgage matures, he suggested they increase it to $300,000 to pay off the credit line and deferred property taxes, (which charges 5.2 per cent interest and is added to property tax owing – a higher interest rate than a traditional mortgage).

At that point, Rempel recommended they set their mortgage back to a 25-year amortization with the lowest payment. “The $300,000 mortgage payment should be barely higher than their existing mortgage payment and they will still have lots of equity for their estate. They should keep contributing the maximum to their TFSAs both for higher return and flexibility if they need cash. This strategy minimizes all their interest costs while maximizing their cash flow,” he said.

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Rempel added, “Don’t worry about paying off the mortgage early. Just keep the payment reasonable and pay it off slowly while enjoying your life.”

*Names have been changed to protect privacy.

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