Agony Aunt: Reverse mortgages are a solution for the asset rich but money poor

Dear Janine,

I'm writing on behalf of a friend who is heading towards 70 and lost her husband five years ago. They had just completed building a new home.

We think the house is worth around $750,000, although she's tried to sell it a few times in that price range and it hasn't sold.

There's a very small amount owing on it. She'd like to free up some cash and perhaps move into something smaller as the rates and costs associated with a large home are difficult for her.

She does a little babysitting and gets a couple of small pensions/benefits.

We think she should take a low interest loan on the house to free up some cash over the next 25 years. When she dies her two children can repay the loan from the sale of the house.

She has been advised against this by her lawyer and will not even consider it.

What do you think is best for her situation?

ANSWER:

Here's a wee suspicion – you've read my columns in the past and seen I'm  'pro' reverse equity mortgages. Hence, I suspect you are checking if there's an alternative to the lawyer's negative stance.

As you'll be aware, I get thoroughly sick of reading dribble about these loans being expensive, evil and only taken out by mugs. In the right situation they are a perfect solution for the asset rich and cash poor. 

Mention a reverse equity mortgage and suddenly you've been infected with a rampant incurable disease called compound interest.

Yet these loans come with lifetime occupancy, no negative equity and no repayments.

A standard mortgage has none of these benefits, but is more socially acceptable for some astounding reason.

Yes they cost more, but you're dead when they are repaid. So it won't hurt much.

Plus house price inflation offsets some of the interest cost. You are only allowed to borrow 20 per cent of the value in your home and this prevents them spiralling out of control.

The shrieking is inexplicable and generally comes from children who don't want to see their inheritance blown up, but won't step forward and offer an alternative. 

The pro-stance comes with a few caveats. To sing their praises we need to be presented with a person who:

1. Has explored all housing alternatives: lives in a small house and can't downsize any further. Or won't downsize due to age, anxiousness or the shock of change sending them to an early grave.

2. Has cash flow issues: is struggling to pay bills, or cannot enjoy hobbies, trips and family events in retirement, because money is tight.

3. Has applied the rule 'speak now or forever hold your silence': they've discussed the implications with children in order to allow an opportunity for family to fund the solution if they wish. 

Based on what you've told me, your friend doesn't pass the tests. I strongly agree with her lawyer on this one.

This is quite a wealthy woman who doesn't need a reverse equity loan. There is absolutely no need for her to clock up compound interest, while she is sitting in a big house and openly admits she'd be happy in a smaller property.

You don't take out these loans to deal with timing issues. She will easily free up six-figure amounts of cash when she gets realistic about the sale price and downsizes.

I suspect there are some big emotional issues behind her inaction.

When you desperately miss your husband and feel robbed of your retirement, the last thing you want to let go of, is the dream-home you built together.

A building project is covered in memories, joint decisions and hope for the future. Selling will come a close second to the day she lost him. 

Projects are so costly it takes time for the market to catch up. Sometimes you over capitalise and that's hard to face.

Someone who is truly ready to move on will meet the market. A good agent will justify the value with a range of comparables.  If she's not selling, it's a strong signal she can't face letting go emotionally yet. 

You're obviously a very caring friend and it's hard to watch someone suffer financially. But this woman isn't silly.

She knows at heart what needs to be done and she has choices. The lawyer is giving the right advice and forcing her down a better financial route.

In terms of how cash-strapped she is, you might be surprised.

People never fully disclose what they have, even to professionals. The fact she's had the luxury of maintaining this house for five years, tells me there's a little more in the kitty than you suspect.

Keep up the support; she's lucky to have you. 

Janine Starks is a financial commentator with expertise in banking, personal finance and funds management. Opinions in this column represent her personal views. They are general in nature and are not a recommendation, opinion or guidance to any individuals in relation to acquiring or disposing of a financial product. Readers should not rely on these opinions and should always seek specific independent financial advice appropriate to their own individual circumstances.