The Consumer Financial Protection Bureau issued a warning to seniors this week, cautioning them that taking out a reverse mortgage in order to delay claiming Social Security benefits could be a financially harmful decision.
According to the CFPB, some number of “financial professionals” are “increasingly promoting” a strategy involving seniors taking out a reverse mortgage as a way to bridge the financial gap until they are able to claim their full Social Security benefits.
In its report, the CFPB said it investigated this practice and found that the costs and risks of obtaining a reverse mortgage could exceed the increased amount of a senior’s lifetime Social Security benefits should the person wait to claim their benefits.
As the CFPB report notes, a homeowner is eligible for a reverse mortgage at age 62.
A reverse mortgage allows a homeowner access the equity in their home via a loan, which does not need to be repaid until the last borrower dies or moves from the home.
During that period, the borrowers are required to live in the home, maintain the home, and pay their real estate taxes and homeowner’s insurance.
Seniors are also eligible to begin collecting Social Security benefits at age 62, but considering that 62 is the minimum age, a senior can collect higher monthly benefits should they wait until age 66-67 for their full benefits or age 70 for their maximum benefits.
According to the CFPB, some seniors taking out a reverse mortgage and then claiming their Social Security benefits later in life.
But the report shows that waiting may not be worth it, especially a coming wave of homeowners set to turn 62.
According to the CFPB, nearly five million homeowners will turn age 62 by 2020, which prompted the bureau to express its concern about the “broad promotion” of the delaying Social Security via a reverse mortgage strategy.
“A reverse mortgage loan can help some older homeowners meet financial needs, but can also jeopardize their retirement if not used carefully,” CFPB Director Richard Cordray said. “For consumers whose main asset is their home, taking out a reverse mortgage to delay Social Security claiming may risk their financial security because the cost of the loan will likely be more than the benefit they gain.”
Here’s how the CFPB breaks it down in its report:
Costs of a reverse mortgage can exceed the lifetime benefit of waiting to claim Social Security: The average length of a reverse mortgage loan borrowed at age 62 is seven years. By age 69, borrowers that pursue this strategy will pay approximately 60% in costs (interest, insurance, and fees) for the amount borrowed to bridge the gap in income while delaying Social Security benefits until a later age. Because reverse mortgages are an expensive way to delay Social Security, the report found that by age 69, the costs of a reverse mortgage loan are $2,300 higher than the additional cumulative lifetime amount the typical borrower will expect to gain from an increased Social Security benefit.
The CFPB also cautions that decreasing a homeowner’s home equity through a reverse mortgage could limit their financial options in the future.
“Homeowners who wish to sell their homes after taking out a reverse mortgage are particularly at risk because the loan balance is likely to grow faster than their home values will appreciate,” the CFPB said. “This could limit options for moving or handling a financial shock.”
The CFPB report cites an example involving a 62-year-old homeowner who has a home worth $175,000, with a 2% appreciation per year. Given those factors, the homeowner will have 61% of the home’s total value available as equity at age 67. But by age 85, this homeowner will have only about 16% of equity in the home if they sell the house.
“We find that borrowing a reverse mortgage loan to get an increased Social Security benefit carries significant costs that generally exceed the additional lifetime amount gained from delaying Social Security,” the CFPB said in its report.
“In addition, the amount that a consumer will need to borrow from a reverse mortgage loan to delay claiming Social Security benefits could negatively affect the consumer’s ability to move or use their home equity to meet a large expense later in life,” the CFPB added.
“As consumers consider borrowing a reverse mortgage loan in order to delay claiming Social Security benefits or defer withdrawing funds from retirement savings, it is important for them to be aware of the risks and costs associated with this strategy,” the CFPB continued.
“This is especially true for consumers whose primary source of income is Social Security and whose main asset is their home,” the CFPB concluded. “For those consumers, the costs of a reverse mortgage loan will likely exceed the lifetime amount of money gained from an increased Social Security benefit, which in turn may threaten their financial security later in life.”
For the full report on reverse mortgages from the CFPB, click here.