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Learning Centre

Reverse Mortgages

By: Joyce Smith, CFP, CGA

You have probably seen ads on TV or in magazines about reverse mortgages, or heard about them from other people. Reverse mortgages can be a useful tool for seniors who have built up equity in their home and are looking to supplement their cash flow in retirement, but they are not for everyone.

Assume the house is worth $300,000 and is fully paid off. A reverse mortgage could allow cash advances of up to $120,000 to be received, either as a lump sum or as payments over the period that the person stayed in the house. No payments are required to be paid on this cash advance until the house is sold, allowing someone to stay in their own home when they might not otherwise be in a position to do so. Reverse mortgages are usually for a maximum of 40% of the appraised value of the house, depending on the owners' ages, the location of the house and the type of home. The lender makes their money when is sold, by recovering the principal and interest on the reverse mortgage.

Good points about reverse mortgages

• The money received is not taxable, and it does not affect programs like Old Age Security and the Guaranteed Annual Supplement that have income tests.
• No payments are required as long as the borrower lives in the house - the reverse mortgage is paid off when the house is sold, or on the later of the spouses' death.
• The reverse mortgage is guaranteed to never exceed the fair market value at the time it is sold or the later of the spouses' death.
• There are no restrictions on what the money can be used for.
• If the borrower uses some of the money to buy life insurance to pay off the reverse mortgage, they might still be able to leave the house to their heirs.
• The house can still be sold if necessary (but there may be an early repayment penalty).
• If the borrower chooses to pay the interest on the mortgage yearly, this payment may be tax deductible if the borrowed money is invested.

Not so good points about reverse mortgages

• Interest rates are usually higher. Current reverse mortgage rates are about 7%, versus 5% to for regular mortgages. Interest rates are reset annually, based on the rate for one-year Government of Canada bonds.
• There is a set up fee of about $1,285, plus an appraisal fee of from $250 to $300 and legal fees of $300 to $700.
• A reverse mortgage must be repaid when the house is sold, or on the death of the last surviving spouse, or when the borrower moves out. Unlike a conventional mortgage, the borrower can't move to another home and keep the mortgage. This means, for instance, that they could not rent the old home out and keep the reverse mortgage.

If you are interested in a reverse mortgage, talk to your financial planner to find out what the tax implications are for your specific situation.