Should retirees use their homes to pay bills?

Retirement planning involves years of saving — but what if, when the time comes, your nest egg isn’t enough? Your home might be your secret weapon, offering a way to cover medical bills, urgent repairs or other expenses without depleting your cash reserves.

In fact, your home has never been such a powerful weapon — or valuable asset. As home prices have soared, the average homeowner has racked up a near-record amount of home equity. Baby Boomers in particular, who at ages 60-78 are currently at or approaching retirement, are the generation with the largest, richest homeownership stake, sitting on a whopping $18.6 trillion in real estate wealth.

“Home equity is wealth. It is savings. It is the most important version of that for most Americans,” says Shoji Ueki, head of marketing and analytics at Point, a home equity investments provider. “It enables any American, but seniors in particular, to cover life’s expenses to be able to enjoy their lives. It can be a really important tool for doing so.”

But before you start viewing the old homestead as a piggy bank, it’s important to weigh the potential benefits and pitfalls. Let’s look at whether retirees should use their residences to pay the bills — and the best way to go about it, should they choose to do so.

Homeownership and retirement statistics

Some facts and figures about the current state of homeownership as it relates to retirement:

What is home equity and who can use it?

The percentage of your home that you own outright is called your home equity (“equity” being financial jargon for “ownership”). When you first buy a home, the only part of the property you actually own is equal to the amount of cash you contributed, in the form of your down payment; the rest is financed by your loan. Until you’ve paid off your mortgage in full, your lender technically owns most of your home. However, with each mortgage payment that you make, your ownership stake gets a little bit bigger (and your lender’s slice gets smaller).

Assuming you make on-time payments and your house doesn’t depreciate in value, you’ll build up equity as the years go on. A rise in property values and home selling prices can effectively increase your ownership stake too.

Your home equity stake gets converted into cash when you sell your house, of course. But there are ways to use it for ready money even while you’re still in the home — and often, retirees are in an ideal position to do so (although any homeowner can tap into their equity, as long as they meet certain criteria).

Who can tap their home equity?

The more equity you have and the smaller your outstanding mortgage balance, the bigger a loan you can take.

Generally, lenders require you to have at least a 15 to 20 percent ownership stake in your home to borrow against it. The size of your desired sum vis-à-vis your home’s worth, the loan-to-value (LTV) ratio, matters too. It takes time to build up a sizable ownership stake, but retirement-age homeowners — who are approaching the final years of their mortgage term or have paid it off entirely — can often easily meet this requirement, certainly more so than younger homeowners.

For the best approval odds, you’ll also want to have a track record of on-time payments, a good credit score (preferably over 700), sufficient income, stable employment and a debt-to-income (DTI) ratio under 43 percent.

Ways to tap home equity

Tapping into home equity technically means you’re borrowing against the value of your ownership stake. There are several ways to borrow against your equity.

Home equity loans/lines of credit

A home equity loan or home equity line of credit (HELOC) are two of the most common options.

While they’re similar, there are a few key differences between home equity loans and HELOCs. With a home equity loan, you’ll receive the funds in a lump sum, which you’ll pay back at a fixed rate. Terms typically last between five and 30 years.

HELOCs, on the other hand, are a revolving line of credit. You can take out money as you need it (like you would with a credit card) during an initial draw period. When the draw period ends (usually after 10 years), you’ll repay the funds you borrowed, at a variable rate of interest.

Cash-out refinance

If you still have a mortgage, you can also access your home equity with a cash-out refinance, which replaces your existing loan with a new, bigger mortgage — one that includes the balance of the first plus a portion of your home’s equity as cash.

Reverse mortgage

If you’re 62 or older, you might consider using a reverse mortgage to tap into your home equity. Under this arrangement, your lender makes monthly payments to you as a form of tax-free income (the reason it’s “reverse.”) A reverse mortgage needs to be repaid when you die, sell your home, or permanently move out of it. Reverse mortgages also come with fees and accrue interest, increasing your debt over time.

Shared equity agreement

There are also home equity investment companies that let you borrow cash and pay it back when you sell your house, an arrangement called a shared equity agreement. Technically, the company is not issuing you a loan, but purchasing a stake in your home. Instead of interest, it usually reaps a piece of the appreciation in the property’s value.

“You get some of the same advantages of being able to tap your home equity, in a much more accessible way because our credit score requirements and income requirements are a lot more flexible than they would be for a HELOC or home equity loan,” says Ueki of Point, which offers such agreements.

In all these cases, your home equity acts as collateral for the money you receive, similar to the way the home itself was as collateral for your original mortgage.

Reasons to use home equity in retirement

Tapping your home equity can be a convenient, low-cost way to borrow large sums at favorable interest rates. From medical expenses to tuition bills, there are many reasons that you might decide to use your equity in retirement. Here are some of the most common ones.

• Emergency expenses. If you don’t have an emergency fund and end up with an unexpected expense, it may be worth considering tapping into your home equity. However, if you need money urgently, this might not be the best option because it can take some time to receive the funds.
• Home improvements. Whether it’s for functional or aesthetic purposes, you can use your home equity to pay for remodels, repairs and renovations. Not only can these types of upgrades make your house more comfortable and let you age in place, but they can also boost your property value. The loans’ interest can be tax-deductible if the funds are used in this way, too.
• Paying off bills. Consolidating high-interest debt is another way to use your home equity. If you have big credit card balances, for example, you could save money on interest since home equity loans and HELOCs usually have much lower interest rates than credit cards.
• College costs. Sending a kid or grandkid off to college? You can use your home equity to help cover their tuition, room and board, or other expenses.

All these reasons relate to paying bills and covering expenses. But how about using home equity for more proactive uses: to invest or acquire more assets — like to purchase a second home? It can be done, but going into debt (or deepening debt) to build wealth is always a risky endeavor. In this case, you could wind up with three mortgages (two on your primary residence, one on the new home) — and you wouldn’t get a tax break on the home equity loan interest, either (because the loan’s being used to buy a new property, not on the home backing it).

Drawbacks of using home equity in retirement

Although there are valid reasons to borrow against your home’s equity, there are also some potential drawbacks.

Foreclosure risk

Tapping your home’s equity can feel like a lifesaver if you’re struggling with cash flow. But don’t forget, with home equity loans, you are borrowing against the value of your home.

“People need to be cautious about tapping home equity as a means to pay certain bills,” says Lori Trawinski, director of finance and employment at the AARP Public Policy Institute. “Say you have a lot of credit card debt. Credit card debt is an unsecured debt. Whereas, home equity is a secured debt. And if you cannot make those payments on the home equity loan, your home could go into foreclosure and you can lose your house.”

Income instability

Unless you’re willing and able to return to work, repaying a loan gets harder if you’re a retiree with limited income, resources and earning options. Keep in mind that Social Security is the main source of income for people 65 and older. The average monthly retiree benefit was only $1,905 in December 2023.

Trawinski encourages borrowers considering a home equity loan to examine how much income they have coming in, create a budget, and plan for a worst-case scenario.

“That might mean facing a major illness where you may need more money to pay for medical expenses,” she says. “Or you may see a decline in your household income because of the death of a spouse. If those things were to occur, would you be able to make those mortgage payments or home equity payments? Sometimes we don’t do a good job of planning ahead, because no one wants to think about unpleasant things.”

Added debt

It’s especially important to consider why and how you’re tapping your home equity stake. If it’s to consolidate high-interest debt, you should have a plan to temper your spending. Otherwise, running up fresh credit card bills — on top of the added burden of a new loan payment — could get you into even deeper financial trouble.

Similarly, if you don’t have a specific purpose in mind for the money, you might end up using the funds on everyday expenses – and that can be a slippery slope. “If you use a HELOC, your payments increase the more you draw on it, making it counterproductive since you are needing income but actively increasing your expenses every month,” says Mason Whitehead, a branch manager for Churchill Mortgage in Dallas.

Less favorable rates

Although home-based loans tend to charge less interest than personal loans, retirees may not qualify for the best rates.

Lenders can’t discriminate against borrowers because of their age. Yet, studies show that older homeowners tend to pay more for home-based loans and are more likely to be denied loans than younger applicants — likely due to their age. Despite their having higher credit scores on average and more equity in their homes, the odds that older borrowers will die before the loan is paid off can make home equity loans seem like a riskier proposition to lenders.

Reduced inheritance

Even if you can handle repayments, consider that, by borrowing against your home equity, you’re diluting the worth of a very valuable asset — turning something you own into something you owe. In fact, in a recent Fannie Mae survey of 60-plus homeowners, a majority indicated they were not likely to use home equity for additional retirement income — a top reason being, they wanted to own their home free and clear.

Indeed, having home equity debt can complicate things if and when you go to sell your home, as they — like mortgages — usually have to be settled immediately when a property changes ownership. Paying them off will cut into your proceeds. Home-secured debts also cause complications for your survivors if you’re bequeathing them the property (see below).

What happens to home equity debt if a homeowner dies?

Like your mortgage, your home equity debt doesn’t just go away when you die. It’s a lien on the property that exists regardless of who the owner is. Your lender might require the debt to be paid right away after your death (second-in-line to the original mortgage), which may mean selling the home to cover it — or be able to foreclose on the home if it isn’t.

That usually doesn’t happen, however. Since a home equity loan is a type of second mortgage, it’s covered under the Garn-St. Germain Act, which says lenders have to work with heirs or a co-borrower to take over the loan payments, allowing them to keep the home.

If you signed up for credit life insurance or mortgage protection insurance when you took out your home equity loan, your policy should cover any outstanding balance on the loan, paying the lender directly.

Most reverse mortgages have special provisions. They allow co-borrowing surviving spouses to keep receiving payments and living in the home, with no obligation to pay back the debt until they pass away. Spouses who aren’t co-borrowers may also be able to stay in the house, depending on when the reverse mortgage originated and whether or not they meet certain eligibility criteria.

After the last borrower or non-borrowing spouse dies, the heir has a few options, including paying off or refinancing the loan, selling the home for at least 95 percent of the appraised value, or getting a deed in lieu of foreclosure. “In a reverse mortgage, if there is equity remaining in the home upon death, then the home can be sold or refinanced and the heirs can get that equity – or refinance into a traditional mortgage if they qualify,” adds Whitehead.

Yes, it’s complicated. So good estate planning is crucial if retirees start taking on home equity debt. “Every borrower should have a will/trust or some sort of estate plan in place – no matter how much or how little you have to your name,” says Whitehead. “Without one, state probate takes much longer and is more costly. The estate inherits the home upon death and any equity remaining in the home belongs to the estate and the heirs.”

FAQs

• What should I do if I need help paying off a mortgage in retirement?

  If you’re retired and fall behind on your mortgage payments, contact your lender to explain the situation and discuss your options. They might be willing to pause your payments temporarily or modify your loan. You might also consider selling your home and moving into a more affordable property or retirement home. You can also explore mortgage assistance options in your state.

• How much money do I need to retire?

  Experts say that most people will need about 80 percent of their annual income in retirement. For example, if you made $75,000 per year before retiring, you would need $60,000 each year in retirement to sustain your lifestyle. However, you might not need as much if your mortgage is paid off. Some financial professionals suggest having 10 times your annual salary saved by the time you are ready to retire or reach your full retirement age for Social Security (see below).

• When can you retire?

  In terms of Social Security benefits, your full retirement age – or FRA — depends on your birthday; the later you were born, the older your FRA. It is now 67 for people born after 1960. You can start receiving partial Social Security retirement benefits when you turn 62, but you won’t get the complete benefits you’re entitled to, based on your lifetime earnings, until you hit your FRA. And if you can hold off retiring until 70, your benefits are enhanced.