Wade Pfau on Reverse Mortgages

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Wade Pfau on Reverse Mortgages

Post by White Coat Investor » Tue Dec 08, 2015 5:45 pm

One thing I like about Wade is that he's got a lot of guts. First, he writes nice things about whole life insurance (for which he took some deserved criticism.) Now he's writing nice things about reverse mortgages:

http://papers.ssrn.com/sol3/papers.cfm? ... id=2685816
Abstract:
Strategic use of a reverse mortgage can improve retirement outcomes. The benefits are non-linear in nature, as they relate to the synergies created by reducing sequence risk for portfolio withdrawals and to the non-recourse aspects of reverse mortgages that can potentially allow a client to spend more than the value of their home. This article explores six different methods for incorporating home equity into a retirement income plan through the use of a reverse mortgage. Generally, strategies which spend the home equity more quickly increase the overall risk for the retirement plan. More upside potential is generated by delaying the need to take distributions from investments, but more downside risk is created because the home equity is used quickly without necessarily being compensated by sufficiently high market returns. Meanwhile, opening the line of credit and that start of retirement and then delaying its use until the portfolio is depleted creates the most downside protection for the retirement income plan. This strategy allows the line of credit to grow longer, perhaps surpassing the home’s value before it is used, providing a bigger base to continue retirement spending after the portfolio is depleted. Use of tenure payments or one of the coordinated spending strategies can also be justified as providing a middle ground which balances the upside potential of using home equity first and the downside protection of using home equity last. A key theme is that there is great value for clients to open a reverse mortgage line of credit at the earliest possible age.
There are a number of available overviews about the HECM reverse mortgage program.
The government frequently modifies program rules, which does mean that anything written
before September 2013 will be describing conditions rather different from today. At that
time the government streamlined the program to offer a single HECM option, eliminating
what had previously been two options: the HECM Standard and HECM Saver. More
recently, new safeguards have been created to reduce the initial amount of available credit,
to protect non-borrowing spouses who are under 62 when a reverse mortgage begins, and to
provide financial assessments to assure that borrowers will be able to meet the requirements
for property taxes, insurance, and home maintain to keep the mortgage from foreclosing.
Seven total retirement income strategies will be considered, six of which involve spending
from a HECM:
 Ignore Home Equity: This is the only strategy which is not comparable with the
others, as it makes no use of the home equity. The strategy is only used to indicate a
baseline probability of plan success when home equity is not used.
 Home Equity as Last Resort: This strategy represents the conventional wisdom
thinking regarding home equity. It is the only home equity strategy which delays
opening a line of credit with a reverse mortgage. The investment portfolio is spent
first. If and when the portfolio is depleted, a line of credit is opened with the reverse
mortgage and spending needs are then met with the line of credit until it is fully
used. The PLF is calculated using the current PLF table for the updated age and
9
simulated interest rate value at the future date, assuming the same underlying 3%
margin rate.
 Use Home Equity First: This strategy opens the line of credit at the start of
retirement, and retirement spending is covered from the line of credit first until it is
fully used. This allows more time for the investment portfolio to grow before being
used for withdrawals after the line of credit is depleted.
 Sacks and Sacks Coordination Strategy: This strategy opens the line of credit at
the start of retirement, and spending is taken from the line of credit, when available,
following any years in which the investment portfolio experienced a negative
market return. No efforts are made to repay the loan balance until the loan becomes
due at the end of retirement.
 Texas Tech Coordination Strategy: This strategy is modified from the original
strategy described in Pfeiffer, Salter, and Evensky (2012) to remove the cash
reserve bucket. This strategy performs a capital needs analysis for the remaining
portfolio wealth required to sustain the spending strategy over a 41-year time
horizon. Spending is taken from the line of credit when possible, whenever the
remaining portfolio balance is less than 80% of the required wealth glidepath.
Whenever investment wealth rises above 80% of the glidepath value, any balance
on the reverse mortgage is repaid as much as possible without letting wealth fall
below the 80% threshold, in order to keep a lower loan balance over time and
provide more growth potential for the line of credit. The line of credit is opened at
the start of retirement.
 Use Home Equity Last: This strategy differs from the “home equity as last resort”
strategy only in that the line of credit is opened at the start of retirement. It is
otherwise not used and left to grow until the investment portfolio is depleted.
 Use Tenure Payment: This strategy opens the line of credit at the start of
retirement and uses the tenure payment strategy. With an initial home value of
$500,000, an expected rate of 5%, and an age 62 start, annual tenure payments from
the line of credit are $17,972. Any remaining spending needs are covered by the
investment portfolio when possible.
By his analysis, the "Use Home Equity Last" strategy wins by a long shot. Now, how many of you millionaires are convinced enough to open a reverse mortgage at age 62?
1) Invest you must 2) Time is your friend 3) Impulse is your enemy | 4) Basic arithmetic works 5) Stick to simplicity 6) Stay the course

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Re: Wade Pfau on Reverse Mortgages

Post by Artsdoctor » Tue Dec 08, 2015 5:47 pm

Nope.

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Re: Wade Pfau on Reverse Mortgages

Post by Broken Man 1999 » Tue Dec 08, 2015 7:25 pm

I did some shopping around, but I won't commit until I have more offers. My first offer was closing costs of $11,000. After mentioning I was still shopping, I received a second offer of $8700. An offer from a different loan company was $8000 closing costs.

Initial line of credit was $131,000, on home worth $250,000.

My current activity is requesting info from all lenders in my state.

I am really just looking for a line of credit.

I priced out a LTC policy for wife that was about $3000/yr. That's every year, whether used or not. Hopefully any LTC policy wouldn't be used, but still $3000/year, ongoing for ? years, that can really add up.

We might do this, might not. $8000 isn't a great deal of money in the grand scheme of things, less than two months expenses.

Seems like for a lot of people who are going to have struggles in retirement, a RM could really help.

For others, just another source of secure funds if needed.

Broken Man 1999
“If I cannot drink Bourbon and smoke cigars in Heaven than I shall not go. " -Mark Twain

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Re: Wade Pfau on Reverse Mortgages

Post by White Coat Investor » Tue Dec 08, 2015 7:33 pm

Hard to get excited about paying $11K to buy something that I probably won't use, and even if I do I only get $131K from, which subsequently gets subtracted from my heir's inheritance. It seems like selling the house, buying a SPIA with the proceeds, and renting if it comes to that would be better. I mean, running out of everything but home equity is a pretty disastrous retirement outcome.
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Re: Wade Pfau on Reverse Mortgages

Post by Broken Man 1999 » Tue Dec 08, 2015 7:56 pm

EmergDoc wrote:Hard to get excited about paying $11K to buy something that I probably won't use, and even if I do I only get $131K from, which subsequently gets subtracted from my heir's inheritance. It seems like selling the house, buying a SPIA with the proceeds, and renting if it comes to that would be better. I mean, running out of everything but home equity is a pretty disastrous retirement outcome.
The $131,000 grows each year, IF you don't tap. If I did open a RM, any costs would be paid from existing funds, leaving the entire initial line of credit to grow.

And, selling a home, AND/OR buying a SPIA AND/OR renting are activities that require funds to be paid. In our case, home equity isn't that much of our portfolio.

My best hope would be have the LOC grow above home's worth, take maximum from LOC, and have the kids throw the bank the keys when the last of us pass. Could work out, might not, but $8000 isn't that large of a gamble.

There are many tools to use to secure a good retirement, this might or might not be a good one. If I take one, I'll let you know how it worked out in 20-25 years! Or maybe my wife will have to update our experience. :D

Broken Man 1999
“If I cannot drink Bourbon and smoke cigars in Heaven than I shall not go. " -Mark Twain

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Re: Wade Pfau on Reverse Mortgages

Post by CedarWaxWing » Tue Dec 08, 2015 7:59 pm

ok...maybe I should offer the RM for 1 K less closing costs...

M.

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Re: Wade Pfau on Reverse Mortgages

Post by Artsdoctor » Tue Dec 08, 2015 8:10 pm

I will give Wade credit for making people think about how home equity fits into the Big Picture. If you're interested in leaving an inheritance, it's the perfect vehicle since your heirs will inherit an asset with a stepped up basis. But if you're planning on spending the equity, it does open the door for a lot of variables in decision-making.

I know that it's nice for people to stay in their homes "forever," but the fact is that many houses aren't that friendly for owners in late retirement. Too many steps, bathroom's too slippery, floors uneven, etc. Most people will inevitably sell their homes at some point so just make sure to save those receipts from renovations to increase that cost basis! Capital gains can kill you, at least in this neighborhood!

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Re: Wade Pfau on Reverse Mortgages

Post by itstoomuch » Tue Dec 08, 2015 9:01 pm

RM worked for Mom on her primary home and saved her most important asset-Beach house.
Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo

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Re: Wade Pfau on Reverse Mortgages

Post by wade » Tue Dec 08, 2015 10:44 pm

EmergDoc, thanks for starting the thread.

Broken Man, before the whole discuss gets anchored on the idea of a $11k upfront cost, I think you might find better results if you keep shopping.

Assuming you are talking about a HECM reverse mortgage, which most are, then upfront costs involve:

-lender's _may_ charge an origination fee of 2% of home value up to $200,000, and 1% above that up to a maximum of $6,000. For $250k, that's $4,500. HOWEVER, currently it isn't that hard to find a lender that is willing to completely waive this fee. You should be able to get it close to $0.

-Then, a second source of upfront costs is for the initial mortgage insurance premium paid to the government. If you are just opening a line of credit without taking a big lump-sum, it is 0.5% of the home value. That's $1,250. It's unavoidable, and it goes to the government rather than the lender.

-finally, there are closing costs, and these will be similar to what is experienced with any type of mortgage. These costs include for the FHA-mandated counseling session, home appraisal costs, credit checks, and any costs related to titling. If the appraisal shows shortcomings for the home which could impact health or safety, then additional home repairs may be required as part of setting up the reverse mortgage. A 2011 AARP report estimated that typical closing costs fall into a range of $2,000 to $3,000.


With these three sources of costs in mind, $11,000 seems outrageous. $3,000 to $4,000 seems more reasonable.

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Re: Wade Pfau on Reverse Mortgages

Post by White Coat Investor » Tue Dec 08, 2015 10:49 pm

Broken Man 1999 wrote: The $131,000 grows each year, IF you don't tap. If I did open a RM, any costs would be paid from existing funds, leaving the entire initial line of credit to grow.
I'm still having trouble wrapping my head around this. WHY does the $131K grow each year and how is it determined how much it grows?
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Re: Wade Pfau on Reverse Mortgages

Post by wade » Tue Dec 08, 2015 10:57 pm

EmergDoc wrote:
Broken Man 1999 wrote: The $131,000 grows each year, IF you don't tap. If I did open a RM, any costs would be paid from existing funds, leaving the entire initial line of credit to grow.
I'm still having trouble wrapping my head around this. WHY does the $131K grow each year and how is it determined how much it grows?
To try to explain the intuition in as few words as possible:

The borrowing amount is meant to be a discounted present value. If you borrowed that amount initially, the idea is that the loan balance would grow and eventually you would approximately pay off the loan balance with the future value of the home. But the growth rate for the loan balance is the same as the growth rate for the line of credit. So if you do not touch the line of credit, it keeps growing and you can have access to a greater amount in the future. This is why the impacts from opening a line of credit at around age 62 ends up working more effectively than waiting until later to open the line of credit.

From the SSRN paper, here is a bit more technical explanation:

Ongoing Credit and Loan Balance Growth

Once determined through the PLF, the principal limit which can be borrowed against will
grow automatically at a variable rate equal to the lender’s margin, a 1.25% mortgage
insurance premium (MIP) and subsequent values of 1-month LIBOR rates. Any
outstanding loan balance also grows at this rate. As well, the line of credit almost always
grows at this rate, with rare exception when there are set asides for servicing costs growing
at a different rate. Those exceptions do not apply herein, so that total principal limit, loan
balance, and remaining line of credit all grow at the same variable rate. The total principal
limit equals the sum of the loan balance and the remaining line of credit. Once enough is
borrowed so that the loan balance equals the principal limit, no further borrowing is
possible except if a tenure payment was chosen or if some loan balance is repaid.

These LIBOR rates are the only variable part for future growth, as the lender’s margin and
MIP are fixed at the beginning. A key feature of the HECM program is that it is a nonrecourse
loan. No matter how much is borrowed, the amount due cannot exceed 95% of the
home’s appraised value when repayment is due.

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Re: Wade Pfau on Reverse Mortgages

Post by dodecahedron » Tue Dec 08, 2015 11:48 pm

EmergDoc wrote:
Broken Man 1999 wrote: The $131,000 grows each year, IF you don't tap. If I did open a RM, any costs would be paid from existing funds, leaving the entire initial line of credit to grow.
I'm still having trouble wrapping my head around this. WHY does the $131K grow each year and how is it determined how much it grows?
When my mother told me about this feature of a HECM she was considering, I had the same reaction EmergDoc did, but after reading Wade's work earlier this year light bulbs went off in my head. Essentially when you take out a HECM you are purchasing a put option on your home, with a strike price that grows over time.

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Re: Wade Pfau on Reverse Mortgages

Post by ogrehead » Wed Dec 09, 2015 1:35 am

EmergDoc wrote:Hard to get excited about paying $11K to buy something that I probably won't use, and even if I do I only get $131K from, which subsequently gets subtracted from my heir's inheritance. It seems like selling the house, buying a SPIA with the proceeds, and renting if it comes to that would be better. I mean, running out of everything but home equity is a pretty disastrous retirement outcome.
This is not to advocate reverse mortgages, but $11K is not grossly out of line with all of the closing costs when the house is ultimately sold; unless your heirs physically move in and take title to the house those will be incurred some day, and they are unlikely to go down. A reverse mortgage has something of an annuity component to it, since it is nonrecourse and you don't have to pay back a cent as long as you are capable of keeping up living in the home. That cannot be said for selling and renting.

That said the paper is basically only comparing different strategies for tapping home equity via reverse mortgages / lines of credit. In the real world people have to consider what happens when they need to move and other creative alternatives, like downsizing, moving in with relatives, assisted living etc etc. Reverse mortgages are a potentially useful tool for some people.

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Re: Wade Pfau on Reverse Mortgages

Post by White Coat Investor » Wed Dec 09, 2015 2:03 am

wade wrote:
EmergDoc wrote:
Broken Man 1999 wrote: The $131,000 grows each year, IF you don't tap. If I did open a RM, any costs would be paid from existing funds, leaving the entire initial line of credit to grow.
I'm still having trouble wrapping my head around this. WHY does the $131K grow each year and how is it determined how much it grows?
To try to explain the intuition in as few words as possible:

The borrowing amount is meant to be a discounted present value. If you borrowed that amount initially, the idea is that the loan balance would grow and eventually you would approximately pay off the loan balance with the future value of the home. But the growth rate for the loan balance is the same as the growth rate for the line of credit. So if you do not touch the line of credit, it keeps growing and you can have access to a greater amount in the future. This is why the impacts from opening a line of credit at around age 62 ends up working more effectively than waiting until later to open the line of credit.

From the SSRN paper, here is a bit more technical explanation:

Ongoing Credit and Loan Balance Growth

Once determined through the PLF, the principal limit which can be borrowed against will
grow automatically at a variable rate equal to the lender’s margin, a 1.25% mortgage
insurance premium (MIP) and subsequent values of 1-month LIBOR rates. Any
outstanding loan balance also grows at this rate. As well, the line of credit almost always
grows at this rate, with rare exception when there are set asides for servicing costs growing
at a different rate. Those exceptions do not apply herein, so that total principal limit, loan
balance, and remaining line of credit all grow at the same variable rate. The total principal
limit equals the sum of the loan balance and the remaining line of credit. Once enough is
borrowed so that the loan balance equals the principal limit, no further borrowing is
possible except if a tenure payment was chosen or if some loan balance is repaid.

These LIBOR rates are the only variable part for future growth, as the lender’s margin and
MIP are fixed at the beginning. A key feature of the HECM program is that it is a nonrecourse
loan. No matter how much is borrowed, the amount due cannot exceed 95% of the
home’s appraised value when repayment is due.
So what is the growth rate for the line of credit and who determines that? Is it part of the initial contract? Is it tied to LIBOR or some other rate? What are the odds that it grows to be more than the value of the house given the huge head start the house was given if all you get is $131K out of a $250K home?
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Re: Wade Pfau on Reverse Mortgages

Post by MIretired » Wed Dec 09, 2015 3:19 am

:oops: From what I understand so far:
So what is the growth rate for the line of credit and who determines that? Is it part of the initial contract? Is it tied to LIBOR or some other rate?
Yes. The libor rate.
The current 1 month libor is about 0.21%.
The sum of (the LOC minus balance borrowed so far) compounds at the 1 month rate of libor. The house value may rise at a higher/lower rate (ie: inflation rate?) But, a non-recourse loan if borrowed exceeds future house value.

The $131,000 comes from a formula which I could not find again from a while back(maybe I was just playing with the calculators.), concerned with youngest owner's/spouses age, value of house (upto $625,000), and libor 1 month rate. If you're 70 or 75, you can get a higher percentage of house value for a LOC.

The controlled init. LOC is in the discount present value of that LOC, or house value. If age 62, and LE is 85. Then $131,000 may be worth $262,000 at age 85 (23 yrs.)

Here is a gov link on this, but without the LOC formula from FHA:
http://portal.hud.gov/hudportal/HUD?src ... 2Fhecmabou

Here is table of historic libor rates:
http://www.fedprimerate.com/libor/libor ... viousmonth

.......
Not sure how well I explained anything, considering my understanding. Wish I found that formula again. I thought the total LOC was around .5 at age 62 of house value, increasing for older ages.

.....
I thought the increase in LOC over time also had some relation to the insurance (MIP) paid, but looks like from Wade, not.

...
Actually, I don't get some of the logic in the posts of this thread.
1. Why would you save-up your LOC compounding if you're only getting the LIBOR compounded on your available credit, and if you use it, you pay the then current LIBOR rate on that borrowed? Isn't the whole object of this to spend down your equity because nobody needs the house? Compounding the available LOC is exactly opposite to spending down your equity(ie:LOC available.) What's the value of a line of credit if you don't use it? To save up for a 2nd cheaper beach house, and then sell the main house? And move into the beach house?

---Seems like a bad deal for lenders if all they charge you is LIBOR + $30-$35 monthly fee + what little orig. fee.
Could be a boon for borrowers if these fees end up being less than inflation. Seems they'd charge you LIBOR+ ,like HELOCs, etc.

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Re: Wade Pfau on Reverse Mortgages

Post by wade » Wed Dec 09, 2015 7:01 am

EmergDoc wrote: So what is the growth rate for the line of credit and who determines that? Is it part of the initial contract? Is it tied to LIBOR or some other rate? What are the odds that it grows to be more than the value of the house given the huge head start the house was given if all you get is $131K out of a $250K home?
My earlier answer contained that info, but here it is in equation form and with an example:

principal limit = loan balance + remaining line of credit

With one minor exception for some older contract which is no longer relevant for new contracts today, each of these three numbers grows at the same rate, called the effective rate:

Effective Rate =

One-month Libor Rate + Lender’s Margin + Annual Mortgage Insurance Premium (1.25%)

In November 2015, the one-month LIBOR rate was about 0.2%. If we assume a 3% lender’s margin, this suggests that current effective rate will be about:

Effective Rate: = 0.2% + 1.25% + 3% = 4.45%

This is the rate that the line of credit would be growing at now.

This rate has one variable component: LIBOR. The line of credit grows automatically at a variable rate equal to the lender’s margin, a 1.25% mortgage insurance premium (MIP) and subsequent values of 1-month LIBOR rates.

These LIBOR rates are the only variable part for future growth, as the lender’s margin and MIP are fixed at the beginning.

As for the probability that line of credit could grow to be worth more than the house, I estimated that in a column at Advisor Perspectives last year:

http://www.advisorperspectives.com/arti ... -of-credit

The punchline was that for a 62 year old that that time, the probability this will happen breaks 50% by age 82.

Note that I think this is another example where people (in this case, the government), have not fully thought through the implications of interest rates being as low as they are today, with a chance that they might increase at some point in the future.

Why might one open the line of credit and then not use it up quickly? Well that SSRN article that started the thread shows how measured use of the line of credit can enhance a lifetime retirement spending strategy.

One does have to be careful about the line of credit as they age. If it is worth more than the house and the owner drops dead of a heart attack, then the line of credit disappears and heirs can't get that windfall.

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Re: Wade Pfau on Reverse Mortgages

Post by Levett » Wed Dec 09, 2015 7:23 am

As I recall, Bobcat in the past called attention to Robert Merton's work on reverse mortgages.

Although I am a pretty longtime retiree and don't have a RM, I remain open to learning about new material.

So for those learners (whether millionaires or not), here's a link to a lengthy (50+ minutes), informative presentation made by Robert Merton.

https://www.youtube.com/watch?v=LNibSVi-eR0

Lev

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Re: Wade Pfau on Reverse Mortgages

Post by Johno » Wed Dec 09, 2015 8:29 am

dodecahedron wrote:
EmergDoc wrote:
Broken Man 1999 wrote: The $131,000 grows each year, IF you don't tap. If I did open a RM, any costs would be paid from existing funds, leaving the entire initial line of credit to grow.
I'm still having trouble wrapping my head around this. WHY does the $131K grow each year and how is it determined how much it grows?
When my mother told me about this feature of a HECM she was considering, I had the same reaction EmergDoc did, but after reading Wade's work earlier this year light bulbs went off in my head. Essentially when you take out a HECM you are purchasing a put option on your home, with a strike price that grows over time.
I also hadn't thought about this aspect. If the amount you can borrow is the discounted future (date of your expected death) value then, before considering any quirks of the formula, you'd think it would wash out to start the transaction now or later. Now the LOC has more time to grow from a smaller initial amount, but later the initial amount would be discounted over a shorter period of remaining life. But you're more likely to need the LOC if investment returns are bad, which would probably tend to correlate with the appreciation of the house being poor, ie realized future value lower. Locking in earlier is basically getting a gtee on home price appreciation you don't get if you wait. And like other consumer line-of-credit products (credit cards for example) you might actually get some element of free ride if the pricing is determined mainly based on customers more likely to borrow earlier and pay more lender margin than you are, who won't just keep the LOC in reserve.

The upfront costs must certainly be considered, but there seems significant disagreement what the minimum would be and at the lower end it does not seem an obviously bad idea to lock in that 'rising floor' on future home price, especially since the upfront costs aren't entirely proportional for a more valuable house. The bigger issue seems to me the likelihood of being able to remain in your current house the rest of your life if it's a long one. Our house is in good shape but still has 115 yr old house maintenance issues, and four flights of stairs. It's probably more practical we eventually rent it to one (or more, maybe convert back to multifamily, it's been switched back and forth over its life) of our kids. Selling would incur a big taxable gain assuming values hold up.

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Re: Wade Pfau on Reverse Mortgages

Post by Kelly » Wed Dec 09, 2015 8:35 am

I work as a fee only (I don't sell anything) CFP. Because I charge by the hour (and don't charge much) I get a lot of middle America, blue collar pre-retirees who will have to rely on either a reverse mortgage or downsize to a condo or rent an apartment. These folks may have $200k or less saved.

If you are in that category these are really not bad things. Most of the fees involved are set by HUD (I think).

Wade always writes good stuff.

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Re: Wade Pfau on Reverse Mortgages

Post by MIretired » Wed Dec 09, 2015 11:14 am

Oops! Skipped right over the lender's margin rate.
Wow! If avg. LIBOR turns out to be 3%, you're paying maybe 8.25% on outstanding balance borrowed.
I guess that is almost a fee equal to 1/2 (or the avg.) balance you carry after 9 yrs. -- Borrowed bal. avg. = $100k, and total fees =$100k, in 10 yrs. Ouch!
But, LIBOR could also avg. much less for the next 10 to 20 yrs.
Seems could easily cost more than the benefit. A lot like a traditional mort. I guess one has to include as a benefit the 'imputed rent?' value, also. Where I am, if I sold and bought a CD or TIPS ladder to hedge out inflation, I'd get about enough for only 100 months(8.3 yrs.) of rent payments. So, I guess I would subtract that amount out of the fees of going the RM way.

I'll just read Wade's paper, Duh! since it's for LOC at 62 and 'home equity last', and not a tenured format of withdrawals which is where I was heading to compute.--just trying to check for myself 1st roughly. See how it feels.

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Re: Wade Pfau on Reverse Mortgages

Post by garlandwhizzer » Wed Dec 09, 2015 11:30 am

Personally I am skeptical of anyone who recommends whole life insurance as opposed to term life insurance. Many whole life policies offer considerable sales commissions for those who sell them and they tend to generate considerable profits not only for the salesmen who sell them but also for the companies who offer them. This in my opinion is often the reason why whole life is pushed by those in the financial industry. As for reverse mortgages, some also have high commission-fee-cost structures which may take advantage of the poor elderly while other reverse mortgages are probably appropriate for some aging individuals. Hard to paint all of them with the same brush.

Best advice in my opinion when a "financial professional" is selling something: buyer beware.

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Re: Wade Pfau on Reverse Mortgages

Post by randomguy » Wed Dec 09, 2015 11:38 am

EmergDoc wrote:Hard to get excited about paying $11K to buy something that I probably won't use, and even if I do I only get $131K from, which subsequently gets subtracted from my heir's inheritance. It seems like selling the house, buying a SPIA with the proceeds, and renting if it comes to that would be better. I mean, running out of everything but home equity is a pretty disastrous retirement outcome.

It should not make a difference if you kid gets the money from the house or from a larger portfolio. In reality I think stuff like this works for a really narrow segment of the population. You need to have just enough (if you have a ton of money, you don't need to do it), your house needs to be a decent percentage of your net worth (If you have 4 million dollars and a 250k house, you are getting much benefit. 500k with a 250k house on the other hand and the RM can be a huge percentage), and you need to expect to be able to age in place for some reasonable time (otherwise that initial fee is a killer).


And finally, as an executor of my parents estate, I think I might be in favor of any solution that gets the home out of the estate. Paying the bank there fees might work out to be cheaper than paying real estate agents:)

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Re: Wade Pfau on Reverse Mortgages

Post by HomerJ » Wed Dec 09, 2015 11:39 am

duplicate
Last edited by HomerJ on Wed Dec 09, 2015 11:49 am, edited 1 time in total.

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Re: Wade Pfau on Reverse Mortgages

Post by HomerJ » Wed Dec 09, 2015 11:43 am

EmergDoc wrote:Hard to get excited about paying $11K to buy something that I probably won't use, and even if I do I only get $131K from, which subsequently gets subtracted from my heir's inheritance. It seems like selling the house, buying a SPIA with the proceeds, and renting if it comes to that would be better. I mean, running out of everything but home equity is a pretty disastrous retirement outcome.
Agreed... SPIA is a far better "Plan B" than a reverse mortgage.

SPIA lasts as long as you live, while a reverse mortgage runs out of money at some point. Hope you don't live that long.

In either case, if you get to that point, there's not going to be much of a inheritance.
Last edited by HomerJ on Wed Dec 09, 2015 11:49 am, edited 1 time in total.

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Re: Wade Pfau on Reverse Mortgages

Post by NoRoboGuy » Wed Dec 09, 2015 11:44 am

I can see how a RM might be a good alternative, but for many with decent equity, it may be a better option just to view one's home as a portfolio's "insurance policy," only to be cashed in for a SPIA when necessary, and by selling the home, then renting. For some, they can rent for just what they were previously paying in taxes, insurance and maintenance on the home. Equity proceeds get a commission/closing cost hit but only if/when cashing out the "policy."

This approach seems much more efficient to me. The downside is the risk that home values are depressed at the time of cash out.
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Re: Wade Pfau on Reverse Mortgages

Post by Johno » Wed Dec 09, 2015 1:03 pm

NoRoboGuy wrote:I can see how a RM might be a good alternative, but for many with decent equity, it may be a better option just to view one's home as a portfolio's "insurance policy," only to be cashed in for a SPIA when necessary, and by selling the home, then renting. ...

This approach seems much more efficient to me. The downside is the risk that home values are depressed at the time of cash out.
But one thing the paper is dealing with specifically is quantifying the last point, I'd argue perhaps the key point. The merits of 'equity last but sign up for a RM LOC now' v 'just wait and see if you need home equity later' depends on the variation and correlation of returns on home values and other investments. The main reason seems to me you'd get an RM LOC at beginning of retirement, though not draw on it unless/until necessary ('equity last') is that the future available LOC amount is based on today's home value appreciated at a real* interest rate. OTOH just keeping your home available to sell you're at risk to below expected appreciation, perhaps far below. And that would probably correlate with poor returns on other investments which leave you needing to ever tap the home equity in the first place.

Therefore I think the idea of the using the RM LOC, not drawn, as risk management tool might be worth considering. But it is subject to the actual expenses, whether you can realistically stay in the house a long time (which selling obviously doesn't require), and sure the whole issue is less relevant if you have others assets many times the value of your house.

*the specified spread over 1mo LIBOR is likely to be a positive real rate, though not gteed to be if LIBOR is way below inflation.

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Re: Wade Pfau on Reverse Mortgages

Post by Frugal Al » Wed Dec 09, 2015 2:29 pm

Given that the sequence of returns risk is one of the biggest threats to retirement portfolio draw down, retaining a RM and using last would seem to greatly mitigate that risk, with the increasing LOC being icing on the cake. As dodecahedron points out, it's a put with a growing strike price. I like as many spending options as possible, assuming those options come at a reasonable cost.

Dr. Phau saved an interesting point until last line of the paper:
"As well, it is important to note that strategies which open a line of credit and leave it unused run counter to the objectives of lenders and the government’s mortgage insurance fund. One day these opportunities may be eliminated."

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Re: Wade Pfau on Reverse Mortgages

Post by itstoomuch » Wed Dec 09, 2015 3:11 pm

itstoomuch wrote:RM worked for Mom on her primary home and saved her most important asset-Beach house.
Mom used the RM, in the form of deferred property taxes for seniors. It function very much like a GLWB Equity-Indexed annuity. She took the "income" option in, 1987 and it essentially terminated on her death (97yo) in 2014( 27 years). The benefit increased from $900/yr to $2200/yr. The deferral fee was 6%, compounded. (A few years ago, the rate was changed to 6% simple). The guarantor to the county tax collector, is the State's treasury. I allowed the house to deteriorate to maintain her cash flow, thus there isn't much of a remainder to her children in This House. The State has terminated this program many years ago when they actuarially discovered that their assumptions were wrong. :oops: This is similar to commercial/retail GLWB annuities and possibly to SPIA s. :annoyed

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Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo

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Re: Wade Pfau on Reverse Mortgages

Post by LadyGeek » Wed Dec 09, 2015 4:17 pm

I removed an off-topic comment and subsequent replies. As a reminder, see: General Etiquette
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Re: Wade Pfau on Reverse Mortgages

Post by bhsince87 » Wed Dec 09, 2015 4:39 pm

HomerJ wrote:
Agreed... SPIA is a far better "Plan B" than a reverse mortgage.

SPIA lasts as long as you live, while a reverse mortgage runs out of money at some point. Hope you don't live that long.

In either case, if you get to that point, there's not going to be much of a inheritance.
If I understand it correctly, the government backed reverse mortgages of today can never "run out of money", at least if you choose the monthly income arrangement. They'll keep paying even if you've already been paid all the equity. So they could be considered a sort of longevity insurance as well.

And on top of that, the payments you receive aren't considered income for most purposes.

With no heirs, this is something my wife and I will consider at some point. But since I'm only 50 now, the rules will likely change before I'm eligible.
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Re: Wade Pfau on Reverse Mortgages

Post by MathWizard » Wed Dec 09, 2015 5:51 pm

The idea of a RM is to try to get away from having a huge amount of an un-diversified illiquid asset as part of your net worth.

It would seems to be a better strategy to downsize into a handicap accessible apartment which would have all necessary services
provided. I do almost all standard work and maintenance on our house, but I'm not going to mow the lawn or scoop the driveway
when I'm 80 and we have too many stairs in our house. I'll probably start looking in our late 70's if health concerns do not force an
earlier exit.

Houses make sens when you want to be next to elementary schools in a good neighborhood, and want to have room for a growing family
and room to entertain friends, and store tools for working around the home maintenance, having a 2 car garage because at least one will be
going to work every day, and the other is working or shuttling kids. Once we retire, much of that will go away.

My MIL had a 2 bdrm which looked ideal. Roll in shower, walk-in closets, grab bars, lowered counter-tops. Minimal effort living
to make up for all the work she had to do when she was young. Two bedrooms leave room for a guest couple and a pull out couch
and room for blowup mattress for grandkids which would satisfy most visits. Heck, I'd pay for hotel rooms for a week or two if needed
for visitors rather than have a millstone of a huge house to care for all year long. When it's just the two of us (or even one) there is no
need for a huge house. We'd use the money this frees up to pay for the housing, and put the rest in low risk investments.

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Re: Wade Pfau on Reverse Mortgages

Post by edge » Wed Dec 09, 2015 8:23 pm

Indeed, the wife intuitively mentions from time to time: 'Can't wait to get rid of this huge house and move into a garden condo'. I wonder if the house is suitable for long term living if the RM is more efficient than selling/buying due to typical RE transaction costs...?
MathWizard wrote:The idea of a RM is to try to get away from having a huge amount of an un-diversified illiquid asset as part of your net worth.

It would seems to be a better strategy to downsize into a handicap accessible apartment which would have all necessary services
provided. I do almost all standard work and maintenance on our house, but I'm not going to mow the lawn or scoop the driveway
when I'm 80 and we have too many stairs in our house. I'll probably start looking in our late 70's if health concerns do not force an
earlier exit.

Houses make sens when you want to be next to elementary schools in a good neighborhood, and want to have room for a growing family
and room to entertain friends, and store tools for working around the home maintenance, having a 2 car garage because at least one will be
going to work every day, and the other is working or shuttling kids. Once we retire, much of that will go away.

My MIL had a 2 bdrm which looked ideal. Roll in shower, walk-in closets, grab bars, lowered counter-tops. Minimal effort living
to make up for all the work she had to do when she was young. Two bedrooms leave room for a guest couple and a pull out couch
and room for blowup mattress for grandkids which would satisfy most visits. Heck, I'd pay for hotel rooms for a week or two if needed
for visitors rather than have a millstone of a huge house to care for all year long. When it's just the two of us (or even one) there is no
need for a huge house. We'd use the money this frees up to pay for the housing, and put the rest in low risk investments.

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Re: Wade Pfau on Reverse Mortgages

Post by itstoomuch » Wed Dec 09, 2015 10:44 pm

RM is nothing more than monetizing your paid up home.

Has anyone tried to do a Refi or first mortgage when retired? No earned income? Living on SS and maybe pension, and if you're lucky $200k in IRA? 70yo, in poor health? :annoyed
Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo

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Re: Wade Pfau on Reverse Mortgages

Post by White Coat Investor » Thu Dec 10, 2015 6:17 pm

itstoomuch wrote:RM is nothing more than monetizing your paid up home.

Has anyone tried to do a Refi or first mortgage when retired? No earned income? Living on SS and maybe pension, and if you're lucky $200k in IRA? 70yo, in poor health? :annoyed
Right. I've always loved the idea of it. It's the execution I don't like. Fix the execution and it's a much better option. Wade is suggesting the execution has been fixed in the last few years.
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Re: Wade Pfau on Reverse Mortgages

Post by itstoomuch » Thu Dec 10, 2015 11:18 pm

Mom's RM with the State was a "tax lien". No Bank or Freddie. :annoyed
Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo

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Re: Wade Pfau on Reverse Mortgages

Post by itstoomuch » Thu Dec 10, 2015 11:23 pm

itstoomuch wrote:Mom's RM with the State was a "tax lien". No Bank or Freddie. :annoyed
Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo

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Re: Wade Pfau on Reverse Mortgages

Post by gordoni2 » Fri Dec 11, 2015 12:54 am

Tapping into home equity for retirement makes a lot of sense, but I'm struggling with how to do it in Silicon Valley.

A 2,500 square foot home in Silicon Valley goes for around $3m. The maximum HECM amount HUD insures is $625,500. Which for a principal limiting factor of ~0.5, means you only get to tap into ~$300k, or 10% of the home's value.

Jumbo private reverse mortgages don't have any such cap, but from what I understand they almost disappeared during the subprime crisis. So I don't feel comfortable rely on them as part of my mainline retirement strategy.

Similarly, HELOCs were largely frozen during 2008.

Perhaps I could simply sell my home(*), use the proceeds to buy an inflation indexed SPIA, and agree to rent it back from whoever I sold it to, but I don't know if there are counter-parties against which I can do this, and there is some rental price risk unless you can enter into a long term inflation indexed rental contract.

I want to spend as much as I can before I die, and I have so much equity tied up in my home, but can't figure out how to tap into it reliably and significantly in retirement.

* - Provided you are 47 or older. The price to annual payout ratio of an actuarially fair real SPIA for a 47 year old male is equal to the price to rent ratio of 30 for Silicon Valley.

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Re: Wade Pfau on Reverse Mortgages

Post by ryman554 » Fri Dec 11, 2015 9:27 am

gordoni2 wrote:Tapping into home equity for retirement makes a lot of sense, but I'm struggling with how to do it in Silicon Valley.

A 2,500 square foot home in Silicon Valley goes for around $3m. The maximum HECM amount HUD insures is $625,500. Which for a principal limiting factor of ~0.5, means you only get to tap into ~$300k, or 10% of the home's value.
No way. That's 1200/sq foot, which is the price in Palo Alto or other immediate most sought-after surrounding neighborhoods. You should not be looking to get a HECM if you're living there OR you bought in in the 1960s and want to stay. The rest of the valley you are looking at 2M, tops. And that's only for the next ring out. Out to where the rest of us live (San Jose, Fremont, ...) it's closer to $1M. <still way too much, but...>

And that brings me to the short answer to your question: HECM was not designed for the rich. It was designed as money as a last resort so people have a place to live during retirement. The way to get your equity out of a 3M house is to sell it and move somewhere cheaper. HECM is a government subsidy program to the elders. Ask yourself where the subsidy should be best targeted.

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Re: Wade Pfau on Reverse Mortgages

Post by Toons » Fri Dec 11, 2015 9:30 am

Reverse Mortgage?
Would Not even entertain the thought :happy
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Re: Wade Pfau on Reverse Mortgages

Post by Tonen » Fri Dec 11, 2015 9:42 pm

Is it Government guarenteed? Otherwise, what are the odds of a Line of Credit provider figuring out some clever way of walking away from the deal (eg spinoff to a subsiduary that then becomes insolvent) if lines of credit end up being worth more than the houses?

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Re: Wade Pfau on Reverse Mortgages

Post by Frugal Al » Sat Dec 12, 2015 11:15 am

Tonen wrote:Is it Government guarenteed? Otherwise, what are the odds of a Line of Credit provider figuring out some clever way of walking away from the deal (eg spinoff to a subsiduary that then becomes insolvent) if lines of credit end up being worth more than the houses?
Yes, HECM's are insured by the FHA.

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Re: Wade Pfau on Reverse Mortgages

Post by FoolStreet » Sat Dec 12, 2015 12:58 pm

While, I can see the benefits, in theory, I also put this in the category of, "there is a reason casinos offer cheap buffets way in the back." You can get a good deal, but you need to make sure you are precise and don't get distracted.

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