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Does anyone have experience with reverse mortgages?

I went to this website http://www.rmaarp.com/ and did a quick estimate.

It seemed that the amounts potentially available were very low.

For instance, if DW and I own a home worth $1M, the amount available would be a lump sum of $137k, or a monthly payment of $865.

A lot of our portfolio is in real estate, and I had been considering looking at the possibility of a reverse mortgage as a substitute for an emergency fund, but I suspect it is time to dump that plan and just go with the old-fashioned earn more, save more.
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I ran the numbers on the site using $1M as the value of the home and pretending my wife and I were born in 1940 (65 y/o).

If the numbers are true, a reverse mortgage is a terrible idea. Let's do a silly example to show how bad it really is.

I don't know what the tax rate would be if you sold that $1M home but let's assume a very high 40%.

You sell the home, pay the government $400K and put the remaining $600K in a suitcase under your bed.

Let's also assume a 4% annual inflation rate on your "under the bed cash" over the next 30 years.

Over the next 360 months, you and DW can draw an inflation-adjusted monthly withdrawal of $860.

Summary: The reverse mortgages on the AARP website are a bad deal.

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Summary: The reverse mortgages on the AARP website are a bad deal.

I will not disagree with your conclusion (in general), but the way you get there is way off...


I don't know what the tax rate would be if you sold that $1M home but let's assume a very high 40%.

You would never pay 40% tax on the sale of a $1M home. Not unless you are in a high tax area AND the home shot up in value by gargantuan degrees in less than 2 years...

If you have lived in the home for 2 of the last 5 years, the first $250K (individual) or $500K (couple) of gain is tax free. Also, the amount spent on the home (total purchase costs + home improvements) will never be taxed.



You sell the home, pay the government $400K and put the remaining $600K in a suitcase under your bed.

Let's also assume a 4% annual inflation rate on your "under the bed cash" over the next 30 years.


A more likely case for the sale of a $1M house would be that less than $250K is actually taxable. So if we assume 40% taxes on the $250K that is taxed, you actually have $900K to put into the bank.

I don't agree with using 4% as your inflation rate going forward (I think 3-3.5% is more likely), but that's just feeling, not fact.



Over the next 360 months, you and DW can draw an inflation-adjusted monthly withdrawal of $860.

Summary: The reverse mortgages on the AARP website are a bad deal.


Wait...how does the first statement lead to the second? It looks to me like you are saying the $600K gives you a higher withdraw rate than the reverse mortgage so the home sale is the better deal...

If this is what you are saying, you are missing the boat ENTIRELY on what a reverse mortgage accomplishes. If you sell the home, you have money, but you have to now pay for housing expenses elsewhere IN ADDITION to your other expenses. If you perform a reverse mortgage, you keep the home AND receive money for your other expenses. You need to compare apples to apples!!!

I will trust your calculations for withdrawal rates at 4% annual inflation over 30 years...and I will scale them to represent the two "real" cases as you described them...

Case 1 -- Sell the Home -- receive $900K after taxes
--> monthly inflation-adjusted withdrawal rate of $1290
--> must pay for housing

Case 2 -- Reverse Mortgage -- receive $137K
--> monthly inflation-adjusted withdrawal rate of $196
--> housing expenses already covered

So...if your replacement housing cost will be less than $1100, you are better off selling the home; if they will be greater than $1100, you are better off in the reverse mortgage (in this simplified analysis). Since most people will not replace a $1M home with something that costs less than $1100/month, this shows that the reverse mortgage is something that deserves consideration.

The big problem with reverse mortgages is the fees. Typically, the fees/rate you receive is not very good compared to the "market" rate for mortgages. Often, the best (financial -- this all ignores the emotional side of things) solution is to simply downsize...go from the $1M house to a $500K house and use the remaining $400K (after paying taxes) to provide a 360-month inflation-adjusted withdrawal rate of $570/month.

Reverse mortgages *can* be a good tool. But usually there are better options out there.

Acme
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use the remaining $400K (after paying taxes) to provide a 360-month inflation-adjusted withdrawal rate of $570/month.

I would much prefer to put the $400K into a diversified mix of large and mid-cap equities, then withdraw $1300 per month (adjusted upward annually for inflation) for life, with much left over for others to inherit. Easy, no fees, and a virtually certainty it will work like a charm.
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>> I would much prefer to put the $400K into a diversified mix of large and mid-cap equities, then withdraw $1300 per month (adjusted upward annually for inflation) for life, with much left over for others to inherit. Easy, no fees, and a virtually certainty it will work like a charm. <<

And where are you going to live??
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>> I would much prefer to put the $400K into a diversified mix of large and mid-cap equities, then withdraw $1300 per month (adjusted upward annually for inflation) for life, with much left over for others to inherit. Easy, no fees, and a virtually certainty it will work like a charm. <<

Not to mention that "virtually certainty it will work" is a pretty stupid thing to say when talking about the stock market...

If the stock market tanks the first couple of years after you invest that $400k, your 4% a year might end up a lot less than $1300 a month.
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If the stock market tanks the first couple of years after you invest that $400k, your 4% a year might end up a lot less than $1300 a month.

Not a chance my friend. Just take a look at the data over at REHP. Even if the Great Depression were to repeat itself the day after I put that $400K in the market, I would still be able to take out $1300 per month with a cost of living adjustment for the next 30 or 40 years. The example used a 65-year old fellow, so he'd be safe as can be, plus there would be a huge percentage chance his heirs would inherit much money. This is why annuities make no sense at all.
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By the way, the 4% is based on the highest net asset value, so the fact the market might crash doesn't mean that you adjust to 4% of the reduced net asset value. If the net asset value goes up, you can adjust upward, though.
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I would much prefer to put the $400K into a diversified mix of large and mid-cap equities, then withdraw $1300 per month (adjusted upward annually for inflation) for life, with much left over for others to inherit. Easy, no fees, and a virtually certainty it will work like a charm.

As would I. But that is not an apples-to-apples comparison to what was presented earlier...the 3 items I presented were meant to be directly comparable to what sazani did...

Acme
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And where are you going to live??

Did you not read what I wrote (and ResNellius replied to)?

Sell the house for $1M, pay $100K in taxes, and buy a house for $500K...leaves you with a home and $400K to work with.

Acme
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Sell the house for $1M, pay $100K in taxes, and buy a house for $500K...leaves you with a home and $400K to work with.

By the way, this is a major lesson for many folks who live in homes that have significant value. Sell the house, buy a smaller but nice home in a less expensive area, then use the balance to fund your portfolio. It's amazing to me how few people can see beyond the need to stay in their expensive houses and claim at the same time that they can't afford to retire. Of course, the better course is to have invested wisely over the years, and then live in an expensive home and have more than enough in your portfolio to live in comfort forever.
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Forgive my ignorance.... Where can I see the data at "REHP"? I'm afraid I'm rather new to these boards and don't know what that stands for...

Let me do some rough math though....

If I had $400,000 at the end of 1928... and invested it in the stock market... and took out 4% a year ($16,000)... it seems to me I'd be broke by the end of 1938... a measly ten years later...

I didn't do a month to month break-down... but I doubt it would be much different.. I used the Dow Jones Industrial Average as a Guide... I got the DJIA historical numbers here... 

http://www.analyzeindices.com/dowhistory/djia-100.txt

Here's the simple Excel spreadsheet I came up with...

End of Year	DJIA	% change	Retirement fund
1928	         300		        $400,000
1929	         248	82.67%	        $317,440
1930	         164	66.13%	        $199,339
1931	         78	47.56%	        $87,198
1932	         60	76.92%	        $54,768
1933	         100	166.67%	        $64,613
1934	         104	104.00%	        $50,557
1935	         144	138.46%	        $47,849
1936	         180	125.00%	        $39,811
1937	         121	67.22%	        $16,006
1938	         155	128.10%	        $8
1939	         150	96.77%	        -$15,476
1940	         131	87.33%	        
1941	         111	84.73%	        
1942	         119	107.21%	        
1943	         136	114.29%	        
1944	         152	111.76%	        
1945	         193	126.97%	        
1946	         177	91.71%	        
1947	         181	102.26%	        
1948	         177	97.79% 	        
1949	         200	112.99%	        
1950	         235	117.50%	
1951	         269	114.47%	
1952	         292	108.55%	
1953	         281	96.23%	
1954	         409	145.55%	
1955	         488	119.32%	
1956	         499	102.25%	
1957	         435	87.17%	

 




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Whoops --- hit Reply by accident... Here's the full post

-------------------


Forgive my ignorance.... Where can I see the data at "REHP"? I'm afraid
 I'm rather new to these boards and don't know what that stands for...

Let me do some rough math though....

If I had $400,000 at the end of 1928... and invested it in the stock 
market... and took out 4% a year ($16,000)... it seems to me I'd be
 broke by the end of 1938... a measly ten years later...

I didn't do a month to month break-down... but I doubt it would be much different.. 
I used the Dow Jones Industrial Average as a Guide... I got the DJIA historical numbers here... 

http://www.analyzeindices.com/dowhistory/djia-100.txt

Here's the simple Excel spreadsheet I came up with...

End of Year	DJIA	% change	Retirement fund
1928	         300		        $400,000
1929	         248	82.67%	        $317,440
1930	         164	66.13%	        $199,339
1931	         78	47.56%	        $87,198
1932	         60	76.92%	        $54,768
1933	         100	166.67%	        $64,613
1934	         104	104.00%	        $50,557
1935	         144	138.46%	        $47,849
1936	         180	125.00%	        $39,811
1937	         121	67.22%	        $16,006
1938	         155	128.10%	        $8
1939	         150	96.77%	        -$15,476
1940	         131	87.33%	        
1941	         111	84.73%	        
1942	         119	107.21%	        
1943	         136	114.29%	        
1944	         152	111.76%	        
1945	         193	126.97%	        
1946	         177	91.71%	        
1947	         181	102.26%	        
1948	         177	97.79% 	        
1949	         200	112.99%	        
1950	         235	117.50%	
1951	         269	114.47%	
1952	         292	108.55%	
1953	         281	96.23%	
1954	         409	145.55%	
1955	         488	119.32%	
1956	         499	102.25%	
1957	         435	87.17%	

Dropping 80% from the end of 1928 to the end of 1932 (300 to 60) DESTROYED any retirement plan... 
I'm not sure where you get the 4% withdrawal is perfectly safe no matter what....
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Your number seems to be assuming 100% in equities. As was stated earlier, the recommendation is for portfolios with 50% to 75% in stocks and the rest in some kind of bonds. It'd be pretty extreme to have all your retirement money in the market.


Also, no, as far as I understand it you can't up your withdrawl later on, at least, that's not how the scenarios work. You could say that, if you were retiring now, I could take this much out at my new 4% and then I should be okay from then on too, and yes, that's true, so you could probably get away with it. But why up it unless you have a darn good reason? And that's not how the numbers are usually run.
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DeltaOne81 writes,

Your number seems to be assuming 100% in equities. As was stated earlier, the recommendation is for portfolios with 50% to 75% in stocks and the rest in some kind of bonds. It'd be pretty extreme to have all your retirement money in the market.

Also, no, as far as I understand it you can't up your withdrawl later on, at least, that's not how the scenarios work. You could say that, if you were retiring now, I could take this much out at my new 4% and then I should be okay from then on too, and yes, that's true, so you could probably get away with it. But why up it unless you have a darn good reason? And that's not how the numbers are usually run.


Here's the REHP study on "safe" retirement withdrawals.
http://www.retireearlyhomepage.com/restud1.html

Here's the study showing that you can increase the withdrawal if your portfolio increases in value later on.
http://www.retireearlyhomepage.com/popr.html

intercst



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Well.... I'm not sure if being in bonds would have helped during the Great Depression... 
No idea what bonds were paying, but let's say a whopping 6% (which is probably way high)

So in a 75/25 split.... $300,000 in stocks, $100,000 in bonds.

$12,000 a year taken from stocks, $4,000 a year from bonds
(until the stock money runs out, at which point all $16,000 has to come from the bonds)

End of Year	DJIA	% change	Stocks	        Bonds
1928	        300		        $300,000	$100,000
1929	        248	82.67%	        $238,080	$102,000
1930	        164	66.13%	        $149,505	$104,120
1931	        78	47.56%	        $65,398	        $106,367
1932	        60	76.92%	        $41,076	        $108,749
1933	        100	166.67%	        $48,460	        $111,274
1934	        104	104.00%	        $37,918	        $113,951
1935	        144	138.46%	        $35,886	        $116,788
1936	        180	125.00%	        $29,858	        $119,795
1937	        121	67.22%	        $12,005	        $122,983
1938	        155	128.10%	        $6	        $126,362
1939	        150	96.77%		                $117,943
1940	        131	87.33%		                $109,020
1941	        111	84.73%		                $99,561
1942	        119	107.21%		                $89,535
1943	        136	114.29%		                $78,907
1944	        152	111.76%		                $67,641
1945	        193	126.97%		                $55,700
1946	        177	91.71%		                $43,042
1947	        181	102.26%		                $29,624
1948	        177	97.79%		                $15,402
1949	        200	112.99%		                $326
1950	        235	117.50%		
1951	        269	114.47%		
1952	        292	108.55%		
1953	        281	96.23%		
1954	        409	145.55%		
1955	        488	119.32%		
1956	        499	102.25%		
1957	        435	87.17%	

So you still run out of money after 20 years... And note it's just a straight $16k every year.
No increase for inflation in this model.

Thanks for the REHP link... I see they are using the S&P 500 instead of the Dow...

I wasn't able to easily find historical data on the S&P 500 going back to 1928..
Did it exist back then??

I did find this link

http://www.forecasts.org/data/data/sp500M.htm

which puts the S&P 500 at 17 in 1950. I don't know what it was in 1928.

I apologize for my harsh words before, and for the confrontational tone of even this post...

I just think all of us should know better than to ever use the word "certain" when 
dealing with the stock market.

However, I will examine the REHP in more depth... 
I do think most people who retired in December 1999 are not very re-assured by any historical 
models at this point, though... 
4% a year for the last 6 years has been leaving their accounts, and the stock market is still 
not where it was when they retired...


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rrosenkoetter writes,

So you still run out of money after 20 years... And note it's just a straight $16k every year.

No increase for inflation in this model.


Actually there was DEFLATION during the Great Depression from 1929-1933 when consumer prices dropped by 25%. The CPI didn't return to the 1929 level until 1943. If you take the deflation into account a 4% withdrawal survives for 30 years.

I wasn't able to easily find historical data on the S&P 500 going back to 1928..
Did it exist back then??


Here's the S&P500 index all the way back to 1871 -- 135 years of data. It was compiled by Yale Univ. Professor Robert Shiller.

http://www.econ.yale.edu/~shiller/data.htm

intercst
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Thanks for the link!!

Okay, so as long as we have 25% deflation, we can make the retirement money last....

(Not sure if I'd want to have to depend on that happening to ensure a happy retirement though...)

;-)
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In 1937, you have $12K in stocks and $122K in bonds. Doesn't look like a 75/25 split to me. You're going to have to rebalance in order to approximate what is actually recommended. This allows the bonds income to support through the difficult times, but allows you to have more back in stocks when the markets recover - and they always have in the past. You know, the usually reason for rebalancing, because hot sectors cool and cool sectors warm.

I agree that nothing is ever certain when it comes to stocks, all that can be said is what's worked in the past. And a 4% withdrawl rate has always been safe. Add on some SS and perhaps a small pension and it's a pretty good bet.
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I agree that nothing is ever certain when it comes to stocks, all that can be said is what's worked in the past. And a 4% withdrawl rate has always been safe. Add on some SS and perhaps a small pension and it's a pretty good bet.

Folks are always trying to make financial planning more difficult than it needs to be, and that's usually because the same folks are trying to pick your pocket by making you think you can't live without their sage advice. Annuities function off a much lower withdrawal rate, but that's because the insurance company is taking the rest and far more for themselves, not to mention the residual from your initial investment that's left when the payments stop. All you need to do is have a reasonably well diversified portfolio (personally, I think 90% equities and 10% fixed is about right in terms of asset allocation) and let it work for itself, and you'll have an overwhelming probability of being able to withdraw 3% to 4% almost forever, with a high percentage of having a ton left for your heirs. If the market goes down, you can still withdraw the same amount you were withdrawing before the market went down. Of course, if you retire at a very young age, like 50 or less, then you might want to keep you withdrawal rate closer to 3% in the early years if you would like to stay on the conservative side. Yes, this only works if the future is no worse than the past. Personally, I don't think we'll ever see another period as bad as the Great Depression. If the entire economy were to implode, then it really wouldn't matter what you had done, since everything would be gone, so I personally don't plan my future based on keeping gold in shoe boxes under the bed.

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Folks are always trying to make financial planning more difficult than it needs to be...

Amen to that.

As a general guideline a 4% SWR works just fine for me, for planning purposes. OTOH, I expect to be making corrections to this for as long as my mind is sharp. Who would blindly keep pulling money out of a portfolio at a high rate when it was clearly leading to disaster?

Retirement does not mean that we put financial management on autopilot.

And, if I lose the abiliity to manage my own portfolio, the end is liable to be close enough that it doesn't really matter.
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"I wasn't able to easily find historical data on the S&P 500 going back to 1928..
Did it exist back then??"


Hi rrosenkoetter

Try here: http://www.crestmontresearch.com/content/Matrix%20Options.htm

The chart is available in several different scenarios:
Stock Index Only          11 x 17         8 1/2 x 11      
Taxpayer Nominal 11 x 17 8 1/2 x 11
Taxpayer Real 11 x 17 8 1/2 x 11
Tax-Exempt Nominal 11 x 17 8 1/2 x 11
Tax-Exempt Real 11 x 17 8 1/2 x 11

Stock Market Assumptions: http://www.crestmontresearch.com/pdfs/Stock%20Matrix%20Assumptions.pdf

Regards, Ken
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A lot of our portfolio is in real estate, and I had been considering looking at the possibility of a reverse mortgage as a substitute for an emergency fund, but I suspect it is time to dump that plan and just go with the old-fashioned earn more, save more.
------------------------------------------------------

Earn More - LBYM - Save More.

There are some situations where I would actually recommend a reverse mortgage, but, assuming there is still income in the house, with significant holdings in real estate, and using it to replace an e-fund. IMHO - NO!



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Okay, so as long as we have 25% deflation, we can make the retirement money last....

This is pretty insulting to the study, IMO. A more accurate statement would be:

As long as we have 25% deflation when the worst market scenario in history occurs, we can make the retirement money last...

I feel pretty safe assuming that we will have serious deflation if we ever again enter into a period where damn near everyone has lost 75% of their net worth...

Acme
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The reason that the reverse mortgage payouts seem so low is that the compounding of interest works against you with a reverse mortgage. Remember all those retirement planning brochures that show how a 25 years old can put $100 into their 401K now and have enough to buy France when they are 70 because of compound interest? You are on the other side of the compounding interest curve now since the chances at least having at least one spouse survive to be 95 or 100 are statistically very realistic. This is one of the reasons why reverse mortgages generally don't make sense unless you are relatively elderly, single, and the house is your last main asset.

I saw in your profile that you live in Silicon Valley where there is the possibility of having a steep house price decline, or at least flat prices for a very long time. This will also cause the price value of a reverse mortgage to be less since the mortgage issuer will be taking higher than average house price risk.

I would have to double check on this but I am under the impression that with all reverse mortgages you will still have to pay the property taxes and maintenance so you really need to subtract this out of any projected income from the house. After a decade or so of inflation, your reverse mortgage payment might not even cover your yearly cash flow needed to stay in the house.

The biggest problem though, even if the other numbers work for you, is that while you may want to stay in the house now, when you are older, moving to a condo/nursing home/apartment might be very desirable or necessary but you will be effectively locked in the house.

Greg

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>The biggest problem though, even if the other numbers work for you, is that while you may want to stay in the house now, when you are older, moving to a condo/nursing home/apartment might be very desirable or necessary but you will be effectively locked in the house.
--
Some of the reverse mortgages are now coming with buyback provisions, Say if the owner dies, or has to move, within some timeframe, but of course there will be cost associated with this!




>>This is one of the reasons why reverse mortgages generally don't make sense unless you are relatively elderly, single, and the house is your last main asset.
--
At this is about the ONLY time the Doctor would recommend reverse mortgage. Again, not for some one with additional real estate and as a substitute for an e-fund!

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Drawing contemporary comparisons between the stock market today and
the market that existed in 1928 is specious. The entire nature of
our economy and the market has undergone dramatic change. If we
have not learned everything about managing economies and the markets
since the, at least we've learned a few things, e.g., controling
margin. As for the recent market collapse, did anyone notice that
day-by-day about 40% of the market or better was going up instead of
down? (I am happy to say that our clients averaged positive returns
from the end of 1999 through today.) I've run "what if" scenarios
starting each year from 1960 through today using a 3% inflation adjusted
6% withdrawal rate. So far,it has worked. (By the way,all one needed to do to beat the market from 2000 through today was to recognize at the end of 1999 that the obscene PE's of the NASDAQ and S&P 500 could not be sustained and get out of them and flee to value. Of course, if your sole equity investment strategy is to see Bogle as god and an S&P index fund as manna, then you couldn't do that.)
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