REVERSE MORTGAGE INFORMATION: Tools, News and Resources to Help Seniors Decide

Thousands of Americans are approaching retirement. Every day, retirees are pitched plans about how to protect their assets and invest without any risk. These products have been the focus of watchdog groups and topped the Securities and Exchange Commission list of scams. Here are a few things that if you are pitched you should investigate deeply before investing.

Annuities
Insurance companies and commissioned insurance agents have pitched annuities as the ideal investment to manage risk and protect assets. Products like the fixed annuity which pays you a guaranteed interest rate much like a bank CD. The variable annuity invests in mutual fund-like portfolios known as subaccounts. Equity indexed annuity is a hybrid between a fixed and a variable annuity. This annuity usually pays a guaranteed interest rate while allowing you to share the gains of the stock market.

Let’s look at the pros and cons for a minute. And if you are like me, I always want the bad news first. So we will start with the cons. And the biggest con here is the fees. Many annuities lock in your funds for a period of at least 5 years and some as high as 10 years. If you needed your money or decided you wanted to do something else with it during that time period, you would have to pay early withdrawal penalties as high as 7%. There are also high commissions - between 4% - 10% depending on the product - paid to the agent who sells the product.

The pros of annuities are that they do offer a guaranteed interest rate and the gains are tax deferred until you withdraw them. For example if you like CDs and CDs are all you are comfortable investing in, then an annuity may work for you. Your money is safe due to the guaranteed interest rate, but be aware like any other guarantee you will pay for that right in the form of forgone higher interest rates.

Alternatives
Here are some sales pitches you may hear and some alternatives that may be better suited to your retirement needs.

“You can earn stock market returns with no risk”
If you hear this you are likely being pitched an equity indexed annuity. You will pay higher early withdrawal penalties and there will be caps on how much you can earn. A better solution may be to purchase a diversified stock and bond portfolio. You’ll take on more risk, but you’ll have a lot less fees and have the potential for more growth.

“Don’t you want to protect your IRA from market downturns?”
If you are hearing this you are likely being pitched an IRA rollover annuity. The guaranteed protection being referred to is very expensive in the form of high early withdrawal penalties. It is also usually unnecessary to protect an IRA from market downturn due to the diversification of the IRA. A better solution is to put the IRA in to mutual funds and buy an income annuity once you retire. These income annuities offer you the guaranteed interest rates needed during your retirement years and are setup to provide you with steady monthly withdrawals to live off of.

When you are pitched these plans, be sure to get all the facts and do your homework. Ask to speak with folks who have purchased these products and have had them for 2 years or longer. Also be sure you are dealing with someone who has the experience to fully explain the product. Don’t be afraid to ask for time to take a few days to read over the details before you do anything. If the agent balks at these requests, then walk away. You can visit the Retirement Planning Center at FinanceNewsToday.com for more help with planning your retirement.

An article at RealEstateJournal.com (Slowing Sales, Baby Boomers Spur a Glut of McMansions), speaks to the growing trend away from “[tag]McMansion[/tag]-style” homes and toward smaller, more [tag]efficient homes[/tag]. The article cites problems faced by several families in selling their large homes recently and paints a rather bleak picture of the factors coming together that could put a serious dent in [tag]baby-boomers[/tag] plans for [tag]retirement[/tag]:

Now, some boomers in their late 50s are counting on selling their huge houses to help fund retirement. Yet a number of factors are weighing down demand. With the rise in home heating and cooling costs, McMansions are increasingly expensive to maintain. Nationwide, electricity rates have risen 12% over the past three years, while the price of natural gas for heating has risen 43% in the same period, according to the U.S. Energy Information Administration. That means it can cost $5,000 a year or more to heat and cool a 5,000-square-foot house in a city such as Farmington, Conn., according to Connecticut Light & Power Co.

The overall slump in the housing market also is crimping big-home sales. The volume of newly built homes sold fell 11.2% in the first four months of the year from a year ago, while sales of existing houses fell 5.7%, says the National Association of Home Builders and the National Association of Realtors. Yesterday, one of the biggest home builders, KB Home, cut its earnings outlook for the year, citing declining demand. Bruce Karatz, chairman and chief executive, said demand has fallen “largely due to a sharp reduction of speculative purchases and an oversupply in new and resale inventory.”

Meantime, the jump in interest rates has put the cost of a big house out of more people’s reach. With 30-year mortgages at 6.2% yesterday, a $700,000 loan costs about $4,300 a month, up from $3,900 when rates were 5.28% in June 2003, according to Bankrate.com.

Downsizing is the old-fashioned way to tap into home equity to help fund retirement. During the recent housing boom, many families stretched their budgets to buy the biggest home possible, partly in hopes of capturing big equity gains for retirement.

Last week, the Wall Street Journal’s Jonathan Clements wrote an excellent column challenging the wisdom of this strategy. He noted that while household spending on food, clothing and many other items had fallen steadily over the last several decades, Americans still had a negative [tag]savings rate[/tag] due largely to sharply higher spending in two areas: [tag]transportation[/tag] and [tag]housing[/tag]. Again, the notion of buying the biggest and best, rather than what is actually needed:

But houses appreciate over time, so shouldn’t you buy the largest home possible?

That might have been true during the recent housing boom — but it isn’t likely to be true over the long run. Since 1975, home-price appreciation has been modest, averaging just two percentage points a year above inflation.

Admittedly, you could goose your home’s return with the leverage from a [tag]mortgage[/tag]. You also, however, have to factor in the mortgage’s cost, plus all the other [tag]expenses of homeownership[/tag], including maintenance, property taxes and insurance. The bottom line: Once you deduct those costs, you could probably amass far more wealth by purchasing a smaller home and then sinking the extra money into your [tag]401(k) plan[/tag].

The [tag]Center for Retirement Reseach[/tag] at [tag]Boston College[/tag] today unveiled its new [tag]National Retirement Risk Index[/tag] (NRRI). Following is a brief summary of the NRRI:

The National Retirement Risk Index in a Nutshell

WHAT IS THE NATIONAL RETIREMENT RISK INDEX?
• The National Retirement Risk Index (NRRI) measures the percentage of workingage households who are at risk of being unable to maintain their pre-retirement standard of living in retirement.

WHAT ARE THE KEY FINDINGS OF THE NRRI?
• Almost 45 percent of U.S. households are “at risk.”
• Younger households are more likely to be at risk.
• Other vulnerable groups are those with low incomes or no pension coverage.

WHY ARE SO MANY HOUSEHOLDS AT RISK?
• Social Security will replace less pre-retirement income in the future.
• Traditional pensions are disappearing, and 401(k)s have only modest balances.
• Outside of 401(k)s, households save nothing.
• People are living longer.

WHAT CAN BE DONE TO IMPROVE THE PICTURE?
• Save more – even 3 percent of income makes a big difference over time.
• Work longer – staying in the labor force even two extra years has a big payoff.

[tag]Reverse mortages[/tag] play an important role in constructing and understanding the [tag]NRRI[/tag]. The Index assumes that retired households will take full advantage of potential retirement resources - including tapping home equity through a reverse mortgage:

The Index’s base case scenario assumes that households retire at 65, annuitize their financial assets, and tap their housing wealth through a reverse mortgage. The notion is that these assumptions would allow households to take full advantage of their potential retirement resources.

Of course, this notion doesn’t necessarily reflect today’s retirement environment - and that’s the point. The author’s note that today we’re still in a “Golden Age” of retirement with many retirees benefitting from defined benefit pensions. As these disappear and life expectancies rise, more households will need to take full advantage of their potential retirement resources and, even with this, the NRRI indicates for many there won’t be nearly enough.

Monday’s Wall Street Journal (March 27, 2006) carried an article titled “What If…?” The theme is the critical role that assumptions play in retirement planning. The article provides much good information, but it is particularly nice to see the research done by Ty Bernicke on retirement spending patterns get prominent mention:

According to a new study using data from the Bureau of Labor Statistics, many people overestimate the amount of money they will spend in retirement. The study found that retirees’ total spending, after an initial drop from pre-retirement levels, doesn’t rise with inflation - it generally remains steady. That’s because even though inflation pushes prices higher, the elderly tend to consume less as they age.

We believe that the clear pattern of reduced spending in retirement is too often ignored in retirement planning - including reverse mortgage needs assessment. We’ve developed a retirement calculator that allows users to play with different reality retirement assumptions. Hopefully, the WSJ article is indication that the concept is becoming more mainstream.

The foremost fear of anyone in (or approaching) retirement is that they will manage to outlive their savings.

Projecting your needed income for retirement is a difficult task. It requires looking into the future for decades and matching anticipated needs with the resources you expect to have available. There are hundreds of internet retirement calculators available to assist, but most assume that a household’s current spending level will inexorably increase each year due to inflation. Even with moderate inflation assumptions, the result is often a discouragingly unrealistic retirement plan.

But in reality, actual retirement spending data show that most households spend less as they age.

The Reality Retirement Calculator allows you to take this essential fact into account in preparing your plan. The calculator is designed to project, based on information you provide, a realistic appraisal of your retirement spending needs and the savings goal needed to meet these needs.

As example, during the initial years of retirement, many households experience higher spending levels as long put-off trips, new cars, or other retirement “rewards” are bought. After several years, though, spending tends to taper off in many areas such as entertainment.

The Reality Retirement Calculator allows you to adjust for these trends. It does not disregard inflation but rather allows you to offset this force with spending reduction factors that occur naturally with aging.

Specific spending reduction factors are entirely up to the user, but averages based on national data are used as defaults.

Hopefully, the Reality Retirement Calculator will be a useful tool for you to use as you consider your retirement needs and the role that a reverse mortgage may play.

One of the most important (but least discussed) aspects of reverse mortage planning is life expectancy. From the lender’s standpoint, life expectancy is crucial in determining how much can be loaned, how large monthly payments will be (under term or tenure payment options), and how much needs to be set aside from the loan to pay for loan servicing costs.

From the borrower’s standpoint, a realistic analysis of life expectancy is critical in detemining whether a reverse mortgage makes financial sense. Primarily this is because high upfront costs need to be amortized (i.e. smoothed out) over at least 7-10 years to be reasonable. For borrowers who die within a few years of taking out a reverse mortgage, the transaction will likely end up having been very expensive.

The key life expectancy factor a reverse mortgage borrower needs to be concerned with is “given my current age, how many more years should I expect to live?” Surprisingly, the older you are, the better your chances of living longer than the national averages.

For example, the average life expectancy for a male in the U.S. is about 74 years. But if you are currently 62 years old, you are statistically expected to live another 18.21 years - to 80 years old. This is because you have already outlived many of the people born in the same year. The Social Security Administration maintains a regularly updated life expectancy actuarial chart at its website. Sample life expectancies from the SSA tables are shown below:

Remaining Life Expectancy at Different Ages
Current Age	Male	Female
62	18.21	21.43
65	16.05	19.06
70	12.75	15.35
75	9.83	11.97
80	7.31	8.95
85	5.24	6.42
90	3.7	4.47

When you apply for a home equity conversion mortgage (HECM), the most popular reverse mortgage, lenders use actuarial charts similar to those above to project how many more years you (or your spouse, whomever is younger) will live. This projection is then factored into the loan’s financial calculations.

No adjustments are made for being overweight, smoking, poor health, or other factors. You are simply assumed to have a specific remaining lifespan based on current age.

The savvy borrower will go a step further and develop a more refined assessment of their life expectancy taking into account personal health and lifestyle information. An excellent tool for doing this is the Longevity Game available at Northwestern Mutual website.

Working through this exercise with honest answers (and, perhaps consultation with your doctor) will help put you in a much better position for determining whether a reverse mortgage makes financial sense for you.