Here’s how it works
While a conventional mortgage allows you to borrow money to buy a house, a reverse mortgage lets you access the equity you already have in your property and convert it into payments made directly to you. Intended for homeowners aged 55 years or older, a reverse mortgage allows you to borrow up to 55 per cent of the current value of your principal residence, while retaining ownership. (Note: There are currently just two financial institutions that offer reverse mortgages in Canada, neither of which are any of the five big banks).
The maximum amount you can borrow depends on your age, the appraised value of your home and your lender’s requirements. Where you live also factors into the percentage you’ll qualify for (i.e., large urban centres mean higher loan-to-value approvals versus smaller cities or rural properties).
Meet Sunita and Rahul
Sunita and Rahul are both 55 years old and live in Ottawa with a debt-free home worth $800,000. In this case, they may qualify for a loan of up to 30% of the equity value, meaning they could get a reverse mortgage of $240,000 ($800,000 x 30%).
Their neighbour Mary is a widow and 75 years old. Her home is also worth $800,000, but because of her age, she is likely able to receive the maximum loan-to-value approval of 55%. So, she could borrow a total of $440,000 ($800,000 x 55%).
Unlike a conventional mortgage, you don’t have to make regular payments, but you do have the flexibility to make interest-only payments or interest and some of the principal at any time. You must repay the loan when you move out of the home, sell it, or when the last borrower dies.
If you don’t want to rely on the sale of your home to repay a reverse mortgage, you can consider using a life insurance policy. Buying a life insurance policy allows much greater flexibility in planning your estate – and gives you the option of leaving your home to your children if you wish. If the remaining reverse mortgage amount is less than the insurance coverage, the excess can be re-directed to enhance the estate.
What about the costs?
A reverse mortgage includes many of the same costs as a traditional mortgage – appraisal, legal and administrative fees. It’s also important to note that interest rates on reverse mortgages are higher than other types of loans.
Reverse mortgages for the wealthy
While reverse mortgages were created for people who need to access a consistent cashflow source to fund retirement, you might be surprised to learn that reverse mortgages can be a valuable tool for high-net-worth individuals – particularly those who have much of their net worth tied up in investments, real estate or a corporation.
If you need access to cash, a reverse mortgage helps you avoid selling off appreciating investment portfolios and allows you to access the equity in your home tax free.
Here are some things you can use this equity for:
- Gift to a child to allow them to purchase their first home
- Purchase an investment property or buy a condo you plan to live in later, but rent out in the meantime
- Cover the cost of in-home care so you don’t need to sell the house and move into a long-term care facility
- Have additional equity available in case you encounter an unexpected expense in the future (an unanticipated condo maintenance repair bill for example)
- Downsize and use the equity from the sale of your home to buy a smaller house with a reverse mortgage, resulting in no mortgage payment
Talk to us today to find out whether a reverse mortgage is a good strategy for your financial situation.