Self-Insureing for Future Long Term Care

Self-Insureing for Future Long Term Care

A recent column, “Should Federal Employees Self-Insure for Their Future Long Term Care,” discussed why some federal employees and retirees may want to consider self-insuring for their future long term care (LTC) costs. Some suggestions for self-insuring were made including an employee’s setting aside a portion of their Thrift Savings Plan (TSP) and/or IRAs to use in the future to help pay LTC expenses.

This column presents another method to pay future LTC expenses; namely, a reverse mortgage.

Many federal employees and retirees bought their current homes years ago and have accumulated equity in their homes. They can tap into that accumulated home equity while they continue to live in their homes to pay current and future expenses including the cost of LTC.

But there are disadvantages when a homeowner owns a reverse mortgage. This column discusses what a reverse mortgage is, how a reverse mortgage works, its advantages and disadvantages, and how it can help employees and retirees pay the expenses associated with LTC.

What Is a Reverse Mortgage?A reverse mortgage is a loan (from the reverse mortgage company to the homeowner) that allows a homeowner who is at least age 62 to borrow a portion of their home equity. The homeowner can access their home equity in one of several ways, including as one upfront lump-sum payment, via regular monthly payments, or on an “as-needed” basis.

The amount of money borrowed using a reverse mortgage is due when the borrower (the homeowner):

• Sells the property.

• Dies – the homeowner’s heirs are responsible for paying the loan off if they want to keep the property.

• Lives outside the home for more than 12 months. The exception to this is when a co-borrower or spouse remains living in the home.

Many retired individuals who are at least age 62 use a reverse mortgage to supplement their income in retirement. For example, a federal annuitant who is receiving a CSRS or FERS annuity, Thrift Saving Plan (TSP) and Social Security retirement benefits, may need to make some major improvements to their home. They may qualify to get a lump-sum amount of money from a reverse mortgage in order to finance these improvements.

Another example is a federal annuitant who needs Long Term Care is able to stay in the home but must pay for custodial care in which home health care aids come to the home. Or a married federal annuitant in which the annuitant or the annuitant’s spouse has to go to an assisted living or nursing home facility.

Provided that the other spouse remains living in the home, a reverse mortgage could be used to pay for the annuitant’s or spouse’s stay in the assisted living or nursing home facility. If the homeowner is an LTC insurance policyholder, then monthly payments via the reverse mortgage can be used to help pay the LTC insurance premiums.

It should be noted that the reverse mortgage payments received by the homeowner (via a lump sum payment, monthly installment payments, or on as-needed basis) are income tax free.

All three reverse mortgages feature either fixed or adjustable interest rates. Fixed rate loans have the same interest rate throughout the life of the loan while an adjustable loan has interest rates that fluctuate over time. The three types of reverse mortgages are discussed here in more detail.

• Home Equity Conversion Mortgage (HECM)

An HECM is the most common type of reverse mortgage. HECMs are federal government backed and regulated by the Federal Housing Administration (FHA), and the US Department of Housing and Urban Development (HUD) through a HUD-approved lender.

An HECM borrower must participate in an HUD-approved counseling session before taking out an HECM reverse mortgage. HECMs come with FHA insurance and are non-recourse loans. This means that a reverse mortgage borrower will never owe more than what the house sells for, even if the outstanding loan balance is larger.

However, the homeowner is required to pay a mortgage insurance premium (MIP) with a HECM. The MIP costs the homeowner upfront (at closing) approximately 2 percent of the loan. With an HECM, the maximum amount that can be borrowed during 2023 is $1,089,300.

For the purpose of using a reverse mortgage to pay for costs, an HECM is most probably the best choice. Whether a federal employee needs the funds to pay for his or her Long Term Care, or for a spouse’s LTC, a single lump-sum payment or monthly payments from an HECM reverse mortgage can potentially pay for a large amount of Long-Term Care expenses.

Some Drawbacks About Using an HECM to Pay for Long Term Care Expenses. Many lenders are not forthright with prospective reverse mortgage borrowers about the drawbacks of these loans. Some disadvantages associated with an HECM reverse mortgage are:

• The possibility of losing the house to foreclosure if the homeowner cannot afford to pay the property taxes.

• The homeowner will likely leave less inheritance to his or her heirs.

• At least one individual has to be living in the home (such as the co-borrower or spouse) if the funds from a HECM mortgage are used to pay for the homeowner’s move to an assisted living or nursing home facility, and

• A reverse mortgage is not free. The homeowner could be subject to a significant amount of expenses when applying for the HECM. These expenses include:

A loan origination fee; Mortgage insurance premiums; Title insurance and report fees; HECM counseling; and Variable expenses including appraisals and recording fees.

Federal employees and retirees aged 62 and older who are interested in obtaining a reverse mortgage for whatever reason are advised to speak with their financial advisor to determine if a reverse mortgage is appropriate and meets their financial needs. Employees and retirees are further advised that a reverse mortgage should be used as part of a responsible financial plan.

A reverse mortgage allows a homeowner to borrow against the value of their home, thereby creating “liquid” funds from an “illiquid” asset (that is, the equity in one’s home), to be used to help pay for an important need such as Long Term Care expenses. But the availability of “liquid” funds resulting from obtaining a reverses mortgage can create the temptation to use the liquid proceeds in an unwise manner. In that case, then the homeowner is better off avoiding a reverse mortgage.

Brought to you for education only by Edward A. Zurndorfer is a Certified Financial Planner (CFP®), Chartered Life Underwriter, Chartered Financial Consultant, Registered Health Underwriter and Enrolled Agent in Silver Spring, MD. Tax planning, Federal employee benefits, retirement and insurance consulting services.

Call Scott Underwood at (205) 908-2993 Birmingham or (888) 220-0393 Statewide.