Most retirement plans automatically exclude the largest asset retirees possess, and that is their home. This basically means that at one point, the plan might fail to deliver on one or more of these five things: to make sure they still have enough money, to grow income every year, to leave a meaningful legacy for children and grandchildren, to increase spendable income by reducing taxes, and to build up a source of liquidity for unfunded expenses.
Now that we have the HomeEquity2Income (H2I) program, maybe it’s worth taking a whole new approach when it comes to equity in your primary residence.
Overlooked area of wealth
One very important area of wealth for all retired investors represents the value of their residence, fewer mortgages, or home equity loans. In fact, according to a report conducted by the Joint Center for Housing Studies at Harvard University, high-income retirees have an average of 23% of their personal wealth in the value of their main residence. If you prefer putting it another way, there’s $47 trillion in total home value, and that’s up 19% from two years ago.
The issue is whether you should unlock the value, and if that’s so, what would be the best way to do that? Luckily, there are many ways, such as selling or renting the house, a home equity loan (HELOC), or even a home equity conversion mortgage (HECM).
The planning view is to consider, wherever you can, all major asset classes available to the retiree. Even so, selling or turning your home into a rental property is way beyond your pay grade. As for HECM, while it’s quite understandable why a built-in reluctance to mortgage your primary residence would be an issue, it’s still an option that might ultimately address many worries about your income, long-term care, and even staying in the home you spent so many years in.
What is HECM, and what does it offer a homeowner?
The term in itself is still not too recognized, and the whole purpose of the product isn’t always understood. There are plenty of definitions on hand, but for the most up-to-date ones, here’s what you need to know:
A home equity conversion mortgage (HECM) is a specific type of reverse mortgage backed by the Federal Housing Administration (FHA) that enables homeowners who are 62 or older to convert a small portion of their home equity into cash.
HECM allows homeowners to access a certain portion of their home equity without actually needing to sell their home or even make monthly mortgage payments. Homeowners can even choose how to receive the funds from the HECM, whether it’s a lump sum, monthly payments, a line of credit, or even a combination of these options.
Unlike other traditional mortgages, borrowers aren’t required to make any kind of monthly payment. The loan is generally repaid when the homeowner sells the home, decides to move out, or even passes away.
HECM loans are also insured by the Federal Housing Administration, offering additional protection to their borrowers. Borrowers can easily continue to live in their homes, but it’s important for them to meet their loan obligations, like maintaining the property and paying property taxes and homeowners insurance.
Moreover, HECM loans are completely non-recourse loans, which means that the borrowers or their heirs won’t owe more than the value of the home at the time of the repayment, even if the loan balance exceeds the home’s value.
HECM funds can be easily used for different purposes, like supplementing retirement income, covering medical and long-term care expenses, paying off existing debts, or even home renovations. HECM could be set up to provide valuable and periodic cash flow to the investor, which can be tax-free. Properly designed interest paid on a line of credit could be tax-deductible.
Unmet needs in planning
Did you know that very few plans contemplate the full costs of an extended health crisis as they should? According to Genworth Financial, an insurer that performs regular surveys on the expense of long-term care, you should expect to pay a series of monthly costs of a minimum of $1,690 for adult day health care, $5,148 for a home health aide, and $9,043 for a private room in a specific nursing home facility.
The last one reaches over $100,000 per year. As for the wants, with the price of college skyrocketing, you could decide to fund more of those costs for your grandkids by using your 529 plan. Then there are also the costs of renovating or even changing your residence if, like many others, you want to “age in place.”
Other ways to boost your retirement income: keep working
Probably the most obvious solution to anxiety when it comes to longevity risk and your retirement savings is to keep on working. Every single paycheck you earn also means two weeks added to your retirement fund, rather than money taken from it.
Many Americans have come to such a conclusion. In fact, according to a Gallup poll from 2018, working Americans admitted they expect to retire at 66 years old, compared to 1995, when it was 60 years old. Let’s be honest, that’s quite a dramatic increase, and it’s also quite unrealistic.
As Americans declared they plan to work later in life, that’s not really the plan of corporate America, or even fate, for that matter. High-income 50- and 60-somethings are quite an easy target for cost-cutters.
Moreover, it’s quite hard to predict if (or even when, for that matter), you will be forced to quit working full-time due to disability. The Employee Benefit Research Institute discovered that the actual median retirement age is 62, and around half of workers end up retiring way sooner than they planned. So even if the idea is to keep on working, it’s still unrealistic for many people out there.
Maximize Social Security so you can boost your retirement income.
The next obvious thing you can try is to postpone your Social Security for as long as you can. To be honest, delaying your Social Security until you are 70 years old is a great way to maximize your savings, especially if you are in good health.
Eligible Americans can easily apply for Social Security benefits as young as 62 and as old as 70. As a general rule, retirees stand to gain way more, up to 8% a year in additional benefits, by simply postponing applying for Social Security benefits for as long as they can.
With that being said, individual circumstances can impact these calculations, so it’s highly recommended to consult an expert.
Make tax-efficient retirement savings withdrawals.
For American citizens with a rather decent-sized retirement fund, there are many complicated calculations that need to be considered when it comes to withdrawals. More than that, mistakes might turn out to be quite costly.
McClanahan admitted that many savers think they are best off leaving their tax-advantaged 401(k) or even IRA savings untouched, especially during early retirement, and living off of taxable savings instead.
That would be a huge mistake. If you find yourself in a 0% or 10% tax bracket, it would be quite crazy to do that. As soon as you start claiming Social Security and taking distributions from your retirement plans, you can rapidly end up in higher tax brackets.
This way, Uncle Sam gets a bit of the distribution, too. Taking 401k or IRA distributions to use the 0% to 12% tax brackets as soon as you hit 60 might save you a lot on taxes over the long haul.
We also recommend you try this book: “Safety-First Retirement Planning: An Integrated Approach for a Worry-Free Retirement.”
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