MarketWatch: Reducing Taxes With a Reverse Mortgage

There are many steps retirees can take to optimize their tax situation once they are no longer working. And a reverse mortgage can help that retirement tax picture, according to a recent article from MarketWatch

Among 11 ways to cut taxes in retirement, MarketWatch notes the importance of taking withdrawals carefully, maximizing the tax bracket, converting to Roth IRAs—and considering a reverse mortgage. 

The article describes the situation of a couple who are paying a 25% tax rate on their IRA income. 

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“Payments from a reverse mortgage on their condo would let them reduce their IRA distributions, …and thus reduce taxes,” MarketWatch explains, citing input from wealth manager Brett Horowitz, with Evensky & Katz/Foldes Financial in Coral Gables, Fla.

“Effectively they can get payments for the rest of their life and those payments may even exceed the value of their condo,” Horowitz tells MarketWatch. “When they pass away, the bank gets the condo and that’s it.”

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Written by Elizabeth Ecker

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  • The argument for taking HECM funds in lieu of qualified plan distributions for the purpose of reducing taxes (vs. avoiding sequence of return risk) concerns me. Taxes on the plan distribution are a one-time event, whereas the interest on a HECM draw compounds for the life of the loan and may ultimately far exceed the up-front tax avoidance.

    I would like to see this strategy explored in greater detail, but to-date have only seen the general comments such as the one included in this article.

    • REVGUYJIM,

      Both concern me. Assuming that sequence risk exists for all assets that are going down in value also has risk. What happens if the value of some those assets continues going down and little likelihood of recovery or likelihood of recovery at some indefinite time in the future? Why not take the loss and reinvest in assets that are increasing?

      I agree with your question about replacing taxable income with reverse mortgage proceeds just to save income taxes. Several things come into play such as tax rate, net of income tax reinvestment rate opportunities including their risks, future anticipated changes to the appropriate LIBOR (or government) index.

      There are many moving parts to this analysis so it is difficult to illustrate unless you have excessive amounts of time on one’s hands. When considering variable interest rates, the MIP ongoing rate, and the hypothetical length before HECM termination, it seems there would be times when it is likely to turn out well but also times when it would not.

  • REVGUY JIM brings up a very good point and one that is a logical assumption. However, we have to look at how the senior views this?

    Even though the interest on a reverse mortgage compounds for the life of the loan, the senior does not actually feel it in the punch in the pocketbook. However, the senior will realize the increased income in the pocketbook later in life by not taking distributions.

    True, we don’t have all the facts, how old are the seniors, are they over 70 1/2 years old where they must take minimum distributions? Also we do not know what kind of an IRA it is?

    Never the less, it may be very beneficial for our senior’s to allow the interest on a reverse mortgage to compound for the life of the loan, in order to receive more income down the road and improve their quality of life!

    As I have said, it is in the eyes of the beholder what is the greater benefit?

    John A. Smaldone
    http://www.hanover-financial.com

    • John,

      A fiduciary standard of origination requires advising by the standard of what is in the best interests of the senior.

      If we do not know if the strategy is or is not in the best interests of the senior but we advise by a standard of what will the senior accept as long as that advice results is in another origination the standard we are using reeks of avarice.

      If we cannot demonstrate what is the right answer for the prospect there is nothing wrong with presenting the idea while informing the senior that we are not the individual to be providing the senior that advice as long as we exhort them to consult an individual who is competent in such matters.

  • Not the greatest conclusion: “When they pass away, the bank gets the condo and that’s it.”

    All reverse mortgages are nonrecourse mortgages. The standard is the repayment required at termination is the either the unpaid balance due or the collateral. If the balance due is 10% of the then value of the home why would the owner let the bank get the condo? The owner of the home should sell the condo or use other assets to pay off the balance due.

    • Hi Cynic,

      In addition, the conclusion plays right into the myths that we all try to fight about the lender ultimately owning the mortgagee’s property.

      The real problem is, like you, Jim, and John have all said, we do not know all of the facts. Financial planning is not a cookie cutter, one size fits all, matter. Each client will be unique in some ways. Sure, there are some that will have the same solution, but those are ultimately fairly rare.

      Frank J. Kautz, II
      Staff Attorney

      Community Service Network, Inc.
      52 Broadway
      Stoneham, MA 02180
      (781) 438-1977
      (781) 438-6037 fax
      FrankKautz@csninc.org

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