How retirees can make the most of their home equity

As more Americans approach retirement age with meager savings, many might consider tapping their home equity. After all, on average, Americans have more net worth in their homes than in financial assets, according to a recent report from the Boston College Center for Retirement Research (CRR). But are recent and near retirees taking advantage of this equity to help fund their retirement?

Not really, according to "How Americans Manage Their Finances," a recent report from the University of Southern California (USC) in collaboration with the Society of Actuaries. The USC report found that by late 2015, fewer than 1 percent of Americans age 62 and older had taken out a reverse mortgage -- a financial tool that lets you borrow against your home equity and not repay the loan until you sell the house or die.

Reverse mortgages have been receiving a lot of fanfare lately as aging boomers look for ways to finance their retirement and lenders use persuasive ads to pitch their products. Reverse mortgages also received a boost recently with lower-cost loans being introduced as a result of new government regulations and as thoughtful analysts such as Wade Pfau have discussed how they can be a viable part of a retirement income portfolio.

The USC report shows that far more older Americans are using their home equity in traditional and conventional ways. Most older Americans own their home -- 74 percent of those 60 to 69 and 87 percent of those 70 and older. Of these homeowners, 34 percent in the 60-to-69 group and 56 percent of the 70 and older group owned their homes mortgage-free.

Of older Americans with mortgages, most plan to pay these loans off, according to the current payment schedule (57 percent of people 60 to 69, and 70 percent of those 70 and over). Most haven't refinanced their mortgages in the past three years and don't plan to refinance, saying they're close to paying off their mortgage, their current interest rate is already quite low or there's not much potential to save money.

Owning your home mortgage-free gives you control over your living expenses. By paying off your mortgage, you'll live rent-free, with no landlord raising your rent or asking you to move. Retirees who've paid off their mortgage have substantially lower living expenses compared to both renters and owners with a mortgage, allowing their Social Security and retirement savings to go much farther each month.

Paying off your mortgage and not taking a reverse mortgage also allows you to hold your home equity as a reserve you can tap later if you really need the money to pay for medical or long-term care expenses. At that time, you'll have the flexibility to determine the best way to tap your home equity, through a loan, reverse mortgage or simply selling the house and cashing in the equity.

If you don't need to tap into your home equity, it can serve as an inheritance to leave your children or charities.

Indeed, the USC study confirmed that many Americans are already using these strategies. When older survey respondents were asked why they hadn't taken out a reverse mortgage, the three most prevalent answers were:

  • They didn't need a reverse mortgage (60 percent)
  • They wanted to preserve home equity for heirs (31 percent)
  • They wanted to preserve home equity for an emergency fund (14 percent)

If you're considering a reverse mortgage, it's important to do your homework before going through with it. For instance, using a reverse mortgage to pay for long-term care expenses has one big problem: Most lenders require at least one owner to be living in the home. If all owners move out of the house and into assisted living, the lender can terminate the mortgage.

The CRR report discusses the pros and cons of various ways to tap your home equity, including details on reverse mortgages. It's a good place to start doing your research into the most appropriate way to tap home equity given your unique goals and circumstances.

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    Steve Vernon helped large employers design and manage their retirement programs for more than 35 years as a consulting actuary. Now he's a research scholar for the Stanford Center on Longevity, where he helps collect, direct and disseminate research that will improve the financial security of seniors. He's also president of Rest-of-Life Communications, delivers retirement planning workshops and authored Money for Life: Turn Your IRA and 401(k) Into a Lifetime Retirement Paycheck and Recession-Proof Your Retirement Years.