Should I sell and rent or get a reverse mortgage?

I have two options: to selI and rent a one-bedroom apartment, probably starting at $2,000 a month, or staying in my home and getting a reverse mortgage. Do you recommend reverse mortgages in spite of high interest? I wouldn’t be eligible for a HELOC as I have no income, other than my pension and what I take out of my RRIF. 

Most people recoil at the idea of a reverse mortgage. I have been searching for independent advice on this subject, but most advisers have a vested interest in selling me something, i.e. the bank, mortgage brokers, etc. 

–Laurie

Why retirees might consider a reverse mortgage

I’m sorry to hear you are struggling with this decision, Laurie. I can imagine it is stressful. I will try to walk through the considerations of selling versus a reverse mortgage. 

As an 82-year-old woman, you have a 50% probability of living another 10 years. So, I think you need to consider the lifestyle and financial implications of living well into your 90s. 

Selling a home and renting as a senior

If you sell your home, you will pay a commission to the real estate agents that could total 5% or more of your home value. You will also have legal fees, moving costs, as well as the inconvenience of having to find a new home, pack and move. Say your condo is worth $500,000. A 5% real estate commission plus sales tax could be about $28,000. Legal fees and moving costs could push your all-in selling costs over $30,000. But then you will have plenty of money in the bank and could invest the proceeds and stop worrying about cash flow. 

You could increase your spending by about $2,500 per month, indexed to inflation, and you will probably not run out of money even if you lived to 100. This could cover the rent you estimate at $2,000 per month.

If you move into a rental condo, you run the risk of your landlord selling your condo, in which case, you may need to move out on relatively short notice. An apartment or a retirement home may be a safer option to avoid another move. I can imagine moving once in your 80s could be stressful enough—let alone twice.

Can you get a HELOC if you’re retired?

If you could borrow against your condo’s equity using a secured home equity line of credit (HELOC), this would be a low-cost borrowing solution. Most HELOC rates are in the prime to prime plus 1% range, so 3.7% to 4.7% as of today. 

It sounds like you have already approached your bank and been denied for a line of credit, which is not surprising. Banks are hesitant to lend money to seniors who do not have an income.

Reverse mortgage options for Canadians

There are two reverse mortgage providers in Canada, Laurie: HomeEquity Bank and Equitable Bank. 

If you chose one of them, here’s how it would work. A reverse mortgage can provide a lump sum or ongoing payments to a borrower. HomeEquity Bank currently lists its 5-year variable rate as 6.65% and its 5-year fixed rate as 7.70%. Equitable Bank’s variable (adjustable) and 5-year fixed rates are currently listed as 5.99% to 6.79% and 6.94% to 8.34%, respectively.

For comparison, Canada’s largest bank, Royal Bank, currently has posted rates of 3.35% and 5.34% for 5-year variable and fixed rate mortgages. So, a reverse mortgage may cost a couple percent more in annual interest compared to traditional bank borrowing.

Since you are having trouble finding objective financial advice on reverse mortgages, the Financial Consumer Agency of Canada offers some great info on the topic.

How much money from a reverse mortgage is needed

Let’s walk through the math a bit further. If you get a reverse mortgage, Laurie, you will not be borrowing hundreds of thousands of dollars all at once. 

Say, you need $10,000 a year to supplement your income from your Canadian Pension Plan (CPP), Old-Age Security (OAS) and registered retirement income fund (RRIF). Even if we assume the incremental cost compared to a HELOC is a 3% higher interest rate, that would only be about $300 of incremental interest in the first year. After 10 years, assuming a $100,000 balance, that would be about $3,000 of incremental annual interest. Over time, hundreds of dollars of incremental interest would turn into thousands of dollars per year. 

But you would still own your home. 

You would avoid the financial and non-financial costs of moving. Your home would hopefully be appreciating in value, tax-free, due to the principal residence exemption. You would not have to worry about investing the proceeds or your landlord selling your home or finding a spot in a retirement home. 

Rates affect more than mortgages

The Bank of Canada raises interest rates when inflation is high, as it is right now. If inflation stays high, interest rates will stay high, but that should also translate into higher rent increases. So, selling and renting to avoid paying high interest rates will probably come with high rent and high rent increases. 

That said, in fairness, fixed-income interest rates for guaranteed investment certificates (GICs) and bonds would likely also stay high. So you could invest your condo proceeds at a higher potential return as well, Laurie.

Why do reverse mortgages have a bad reputation

Many people recoil at the idea of a reverse mortgage. But interestingly, some of those same people also recoil at the idea of “wasting” money by paying rent. Ideally, we would all be rich, live off our dividends and own our homes—but life is not always ideal. 

One of the main criticisms I hear about reverse mortgages is that they reduce the estate value for your children. But so does going to Florida, taking physiotherapy and making charitable donations. Should you avoid these? 

Staying in your home and borrowing against your home equity is a choice with an incremental cost if you get a reverse mortgage, Laurie. If you had a lower cost option like a HELOC, you should absolutely do that instead. But if you do not, a reverse mortgage is an option. 

Bottom line

For others who are approaching retirement or are already retired, whether on your own or with a professional, consider stress testing your spending relative to your pensions and assets. It may help to know ahead of time that downsizing, selling and renting, or borrowing against home equity may need to be part of your retirement plan. And if you can get a home equity line of credit in place before you retire, it could come in handy. 

Jason Heath is a fee-only, advice-only Certified Financial Planner (CFP) at Objective Financial Partners Inc. in Toronto. He does not sell any financial products whatsoever.

Read more from Jason Heath:

• What are the taxes on transferring real estate to your kids?
• Capital gains when selling property to family
• Financial gifts: What you need to know before giving money or investments
• The tax implications of owning multiple properties during probate

About Jason Heath, CFP

Jason Heath is a fee-only, advice-only Certified Financial Planner (CFP) at Objective Financial Partners Inc. in Toronto. He does not sell any financial products whatsoever.

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