Reverse mortgage or downsize: what to consider

As you approach your golden years, there are many reasons you might choose to downsize to a smaller home. Maybe you have a lower stream of income and fewer people coming in and out of the house. Or maybe you simply no longer have the energy to keep up with the maintenance of a large property. In these instances, it only makes sense to reconsider how much space you need and what you can afford.

But leaving a family home may not be for everybody, particularly for those who are apprehensive about selling at bottom-of-the-market prices. A reverse mortgage can help provide extra cashflow by accessing the equity you have in your current home. While national home prices are expected to rise 4.5% year over year by the end of 2023, it may be a while until mature homeowners see the value they’d like to when selling their home.

So, when the time comes, does it make more sense to stay put with a reverse mortgage or relocate to a smaller property?

Reverse mortgage

A reverse mortgage allows you to access the equity you’ve built in your home without having to sell it. Homeowners 55 and older are eligible for this loan, but it’s important to understand the advantages and disadvantages before signing a contract.

Pros of a reverse mortgage

With a reverse mortgage, you can borrow up to 55% of the appraised value of your home, tax-free and with no monthly payments. The loan needs to be repaid only once you sell the home or pass away.

After paying off any remaining mortgage balance you might have, you can use the rest of the loan to pay for any expenses you’d like, from home renovations and healthcare to vacations and debt consolidation.

It’s also a versatile loan, as there can be flexibility around whether you receive it in a lump sum or small amounts over time, like regular income. Plus, it’s easy to qualify for.

“Unlike a traditional mortgage, there is no debt-servicing and income required to qualify,” says Victor Tran, RATESDOTCA mortgage expert. “The lender will look at the home and its age, value, and location, along with the applicant’s age.”

You can also get the best of both worlds and can still downsize within your own home by renting part of it out to supplement your cash flow.

Cons of a reverse mortgage

There are some downsides to this loan. The first is higher interest rates.

While you can compare the lowest reverse mortgage rates to find the best option, interest can accumulate quickly when you’re not making regular payments.

And as interest builds, your equity can slowly deplete. That means your estate may be left with significantly less money than you’d hoped, or nothing at all. Keep in mind, they’re responsible for covering the loan and all accumulated interest once you’re gone. And depending on the balance, it may be difficult to repay the loan within the required timeline.

There are also a few fees that need to be paid, including:

• An appraisal fee
• Setup fee
• Legal fee
• Prepayment fee if you repay your reverse mortgage before the due date

These fees, along with the property taxes and home insurance you still have to pay, should be weighed in your decision.

Downsizing

Deciding whether to sell a family home can be emotional, but it’s a move that can complement your new phase of life, all while putting more money in the bank. But before making the move, be aware of the risks and benefits.

Pros of downsizing

If you can find a smaller, less expensive home in your desired location that you can pay for out-right after selling your original home, you’ll be mortgage-free.

You’ll have more money in your pocket, cheaper utility bills, and less maintenance to tend to. Plus, if you have enough money left over after buying your smaller property, you may not need to borrow against your equity later, Tran points out. That leaves more equity to pass onto your family as an inheritance.

Cons of downsizing

Canada’s housing market has yet to correct, and selling now means selling in a down market. So, you may not get the most value out of your home, partially due to the lack of activity in the market. At the same time, home prices still aren’t expected to return to pre-pandemic levels before rising again. So, the downside is two-fold: Selling now means not benefiting from the rise in the average home price expected in the latter part of this year, while also not being able to find a smaller property that isn’t listed at an inflated price.

If you’re not able to buy a new home outright, today’s lowest mortgages rates will still make for a pricey monthly payment. Plus, with a lack of income and an elevated stress test rate, mortgage approval is unlikely.

Related: Mortgage stress test calculator

If you’re looking to access your home equity as you get older to supplement your retirement savings, there’s no one-size-fits-all approach. A mortgage broker can help determine whether you’re a good candidate for a reverse mortgage or whether it makes more financial sense to sell and set the profit aside for when you need it most.