If you’re thinking of taking out a reverse mortgage to supplement your retirement income, you have seven options.
We illustrate the pros and cons of each option here, using as an example a 63-year-old with $100,000 equity in her home with plans to finance the costs of the reverse mortgage.
Option # 1: One Lump Sum
How much you’d get: $51,149 in one payment.
Pros: Useful if you want to invest in something that requires a lot of cash up front, such as starting a small business. You can get a fixed interest rate (all the other options come only as adjustable-rate mortgages).
Cons: You pay interest on the whole amount you borrow. If you don’t need all that money now, you’re paying interest needlessly. Plus, you may not be able to take more out of your house if you run into financial trouble later in life.
Option #2: A Fixed Payment Each Month Until You Move Out or Die
How much you’d get: $300 maximum each month for life.
Pros: The payments continue as long as you live in the house — even if you live to be 101 years old, you’ll still be getting that monthly payment.
Cons: You have to swap into a different payment option if you need a lump sum in the future, say for a large, unexpected home repair.
Option #3: A Set Amount of Cash for a Fixed Period of Time
How much you’d get: $966 a month for five years, $562 for 10 Years, $432 for 15 years, or $371 for 20 years.
Pros: Useful if you need income to cover a monthly payment that’s only going to last a certain amount of months, such as a car payment that ends in two years, or if you need income to tide you over while you wait for another source of income to start coming in, such as from an annuity.
Cons: Compare the cost of taking a sum at the beginning of your mortgage and using that to pay off your car (or other debt) instead of using the monthly term mortgage payment for that bill.
Option #4: A Line of Credit
How much you’d get: $49,459
Pros: You only pay interest on the cash you need each month. You can take more cash when you have unexpected expenses, such as needing a new furnace. Each year that you don’t use it, your line of credit increases because your life expectancy decreases by a year.
Cons: If you take out too much money, you can drain your line of credit.
Option #5: A Lump Sum, Plus Line of Credit
How much you’d get: Depends on the size of your lump sum. With a $20,000 initial lump sum, you’d get a $29,459 credit line. With a $30,000 lump sum, you’d get a $19,459 credit line.
Pros: You can pay off your current mortgage and have extra money in case of future emergencies.
Cons: If you spend down your credit line you may not have money available to pay future expenses like long-term care.
Option #6: Monthly Payments Until You Move or Die, Plus Line of Credit
How much you’d get: Depends on the size of the credit line. With $20,000 credit line, you’d receive $179 a month. With a $30,000 credit line, you’d receive $118 a month.
Pros: You’ll have a check every month to help with living expenses and a line of credit to cover unexpected expenses. You only pay interest on the cash you take.
Cons: You have to pay an adjustable interest rate to get this or any of the other plans that pay you monthly. If interest rates rise, the reverse mortgage balance you (or your heirs) have to repay rises. That leaves you (or your heirs) with less profit when your home is sold to repay the reverse mortgage after you move out or pass away.
Option #7: Monthly Payments for a Fixed Term, Plus Line of Credit
How much you’d get: Depends on the monthly payment size and length. If you wanted $200 a month for 20 years, you’d also get a $22,792 credit line. If you wanted $300 a month, your credit line would fall to $9,458.
Pros: Good if you have a bill to pay every month for a set number of months, such as a personal loan you’re paying off, and you’d like a line of credit for unexpected expenses.
Cons: It may be cheaper to pay off that personal loan with a lump sum, depending on what the interest rates are for your personal loan and your reverse mortgage.
Changing Your Reverse Mortgage Option
If you choose a payment option and it doesn’t work out, you can swap into another one — unless you chose the lump sum. You can’t change a lump sum option because you’ve already taken all the cash you were eligible to get.
Still, it’s better to pick the right plan from the get-go, so think about what you need to use the cash for and how that monthly reverse mortgage payment fits in with your overall financial plan.