As the cost of living increases and older Australians look for new ways to fund retirement, reverse mortgages may become a more popular theme.
A reverse mortgage – sometimes called home equity release – is a loan that is secured by the equity in your property. It essentially means you can continue to live in your home, while using the loan as an extra source of income.
Of course, all loans have to be paid back eventually, but unlike other mortgages, you do not have to make repayments while you’re living in your home. Instead, the interest gets added to your loan balance. The balance then gets paid when you leave home or pass away.
The pros of reverse mortgages
The key benefits of reverse mortgages are twofold – you receive an income stream or lump sum to live on (usually to the value of 15-20 per cent of your property) and get to continue to live in your home until you die or move into aged care.
An added bonus is not having to pay back the loan in regular instalments, as you would with another mortgage, which means whatever money ends up in your bank account is yours to spend. If you do want to make repayments, some lenders allow you to do so.
Lenders, obligations and risks
A regulatory crackdown a few years ago tightened lender obligations around reverse mortgages. Lenders must now make sure their borrowers do not end up with a loan higher than their property’s worth. This is important as it means your family is not left in debt when the loan has to be repaid. However, four years after the legislation was passed, there are far fewer lenders in the reverse mortgage market than there was previously.
If you are considering a reverse mortgage, it’s still important to have a repayment plan in mind. Interest compounds and the rate is often higher than rates for other mortgages, so it’s worth thinking about the costs associated when it comes time to repay (ASIC has a reverse mortgage calculator that may prove handy when doing the sums).
Reverse mortgages can also affect your pension eligibility, so a call to Centrelink is critical for any pension recipient about to sign on the dotted line.
The other thing to consider is if you have a partner, family or a co-tenant, but the reverse mortgage is in your name, they could be forced to move out if you go into care or die. It’s important to have a plan around these scenarios.
The bottom line
Reverse mortgages are certainly not a one-size-fits-all solution to retirement cashflow shortages, but for the prudent borrower who wants extra income for retirement – while living in their own home – they could be worth further investigation.
Kate Cowling is personal finance editor at RateCity.com.au. This is general advice only and should not be substituted for tailored financial advice.