Reconsidering Reverse Mortgages

I always thought of reverse mortgages as a last resort for retirees who had spent down their retirement savings and needed more income in retirement.  The reason why I felt this way, and perhaps why a lot of people had learned to dislike these products, was because of the high fees and interest embedded in the product.  However, with recent changes to various mortgage programs, it may be worth taking a closer look.

Last resort or income stream?

Let’s begin by first looking at how these products used to work and why they typically weren’t advisable except as a last resort.  For a lot of retirees, one of their largest assets is the equity in their houses.  Unfortunately, other than providing shelter, a house doesn’t have a lot of financial benefit.  You might still carry a mortgage in retirement; you pay property taxes, home owners insurance, utility bills, and the occasional home repair.  All of these are money out of your pocket, but when is the last time your house paid you?  Enter the reverse mortgage….a potential way to create an income stream (or lump sum) which can turn the house into a more meaningful asset rather than a money pit.  Everything sound good so far?  Not so fast! The problem is that, in the case of a married couple, the bank used to come knocking at the first death and demand repayment of the income stream plus interest that had been accruing the whole time.  Can’t afford to pay that back all at once? No problem…the bank will just sell the house from under you, take their money back, and give the survivor the remainder (if any) so they can go and try to find a new place to live.  All of a sudden this program doesn’t sound so good.

Reverse mortgages get a make-over

This idea of the survivor losing their house was the primary reason why I rarely recommended clients consider these products in a serious manner. However, in 2013 there were major revisions to how a lot of these products were structured. The fees still seem to be fairly high, but no longer is the bank able to sell the property out from under the survivor.  Now the repayment of the loan isn’t due until both people have died.  With these new changes, it may be worth taking a look at tapping into your home’s equity, knowing that you and your spouse won’t have to leave your house unless you want to.  Work with your financial professional to understand more fully if this type of product might make sense for your specific situation.

Matthew Trujillo, CFP®, is a Certified Financial Planner™ at Center for Financial Planning, Inc. Matt currently assists Center planners and clients, and is a contributor to Money Centered.

The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation. This is not a solicitation or recommendation for a reverse mortgage strategy. Any opinions are those of Center for Financial Planning, Inc. and not necessarily those of RJFS or Raymond James. There are significant costs associated with Reverse Mortgages, such as: up-front mortgage premium, annual premium, origination fee, closing costs, monthly services charge, and appraisal fees. There are significant risk associated with Reverse Mortgages. Generally, the homeowner is still obligated to pay taxes, insurance, and maintenance and if the borrower moves, the loan becomes due, and the total amount due may be larger than anticipated or planned for. Medicaid may also be affected. C14-040266

IMO - In My Opinion: A take on mortgages, Roths, pensions & more

My wife, Jen, and I have been speed watching The Good Wife thanks to Netflix. In The Good Wife, one of the judges (apparently the legal system makes for good TV) constantly requires the lawyers in her courtroom to end their arguments with, “In my opinion.”  The attorneys look bewildered each time as if to say…well of course it’s only my opinion, just like every other statement I make, and everyone knows that except for you, apparently.  A recent consultation reminded me of the “in my opinion” skit (“IMO” for short). 

Professionals Offer Differing Opinions

In our field of professional financial planning (not to be confused with the majority of firms and advisors in the financial SALES industry) there are many rules of thumb, but very few technical standards of care that you might find in the medical or legal field.

As a Certified Financial Planner® practitioner, there are some guiding principles and general statements that CFP® practitioners are expected to display in their professional activities, but they are hardly a technical standard of care. The CFP Board states that “Allowance can be made for innocent error and legitimate differences of opinion, but integrity cannot co-exist with deceit or subordination of one’s principles.” Those legitimate differences of opinion are what I’m talking about.

Differenceofopinion-adisagreementorargumentaboutsomethingimportant

Reasonable minds can and will differ just as in everyday life it is not uncommon to hear reasonable folks say, “Let’s agree to disagree.”  Professional differences of opinion do not render the other professional a crook or even wrong if they are acting from a place of integrity – IMO.  Moreover, it is perfectly appropriate to express a difference of opinion with another financial professional when done in a professional and non disparaging manner – IMO.

Back to my recent consultation – as I listened to the recommendations of another professional, I realized I had several different opinions on what was best for this particular situation and needed to share:

ROTH Conversions: As my colleagues here at The Center can attest, I hold a pretty strong opinion that most people have gotten the Roth Conversion issue “incorrect”.  I believe that many folks have accelerated income taxes at a higher rate than they will pay in the future.  Most workers have a higher income, which usually translates into a higher marginal tax bracket, during their working years than they do in retirement.  But wait; there is no Required Minimum Distribution from a ROTH. True, but this is still only relevant as to what bracket the money comes out.  Don’t get me wrong, this is not an absolutist opinion, there are plenty of correct situations where ROTH’s makes sense (IMO) – look for an upcoming post about converting after tax 401k contributions to a ROTH as an example. There are other limited situations where a ROTH makes sense, IMO.  For example, if you are a high net worth person and reasonably expect that you will always be in the highest marginal bracket, then converting and paying at 35% vs the new 39.6% marginal rate seems to make sense. 

Mortgage vs no mortgage:  A firm attempting to become a national financial planning firm recently counseled a young retiree looking to relocate to another state to, “Get the biggest mortgage possible.” Call us old school – but we think that most retirees are best served entering their retirement years debt free. And this client has substantial taxable funds to complete the purchase.  Our suggestion was to actually RENT initially.  Once they are comfortable and they have found a location that suits them for at least the next 5 years, we think they should consider a cash purchase. Rates are low, which does make obtaining a mortgage more attractive, however in retirement (at age 50) the rate is going to be much higher than any suggested distribution rate (1-3%?).

Pension Lump Sum: Our recommendation is for the client to take a monthly pension at age 55 in the form of a 100% survivor benefit even though her husband is older. The other advisor suggested that even assuming a low return, investing the lump sum will produce more money.  The client suggests that age 94 mortality was very reasonable given her family history.  Under these assumptions, the “low return” needed from the investment portfolio turned out to be 6%; hardly a “low” return IMO. Assuming only a 1% annual difference in return (5%) the lump sum lasts only to age 86.  One of the advantages to taking the lump sum is flexibility or access to a lump sum if needed.  Fortunately, the client’s other assets are substantial. Other more confident professionals might find the hurdle rate low; not me.

401k Rollover:  We both recommended a 401k rollover to an IRA managed by our respective firms.  The client left the employ of a major corporation with what I would categorize as containing a competitive 401k, in terms of investment options and expenses.  My sense is that the client will be better served by rolling the account to either professional.  Successful investment management is more about behavior than selecting the best allocation or underlying securities to complete the allocation – IMO.

Asset Allocation: The other professional recommended a 70% equity and 30% fixed income allocation versus our 60/40 allocation.  My thinking is at this time of their life, less risk is a bit more important.  I do, however, appreciate that because they are so young (hedging against inflation), and their expected withdrawal rate is under 3%, that a higher equity allocation may be reasonable. The other adviser apparently pointed out that their allocation was “optimized” (directly on the efficient frontier) because their mid cap exposure was higher than our recommendation in addition to our international equity allocation being 12% vs their 10% recommendation.  Due to current valuations, we have reduced our allocation to mid and small cap equities from a neutral weighting of 10% down to 8.5% and our international (large developed) is at our target weighting of 12%.  The other professional suggests 14% and 10% respectively.  Only time will tell which portfolio was more successful.  I do feel pretty strongly that in the end our client’s behavior will be more determinative of their investment success versus the subtle differences in portfolio recommendation – IMO.

Annuities:  Do you remember when some advisors called anyone recommending an annuity a crook?  Fast forward a few years and some of the profession’s highly regarded practitioners recommend annuities in many situations.  I still believe that they are way oversold, but that doesn’t mean there are not appropriate situations - IMO.

Everyone has an opinion and I give my clients mine. So, what’s your opinion?

Everything we hear is an opinion, not a fact. Everything we see is a perspective, not the truth.  ~Marcus Aurelius

Timothy Wyman, CFP®, JD is the Managing Partner and Financial Planner at Center for Financial Planning, Inc. and is a frequent contributor to national media including appearances on Good Morning America Weekend Edition and WDIV Channel 4 News and published articles including Forbes and The Wall Street Journal. A leader in his profession, Tim served on the National Board of Directors for the 28,000 member Financial Planning Association™ (FPA®), trained and mentored hundreds of CFP® practitioners and is a frequent speaker to organizations and businesses on various financial planning topics.

Every investor's situation is unique and you should consider your investment goals, risk tolerance and time horizon before making any investment. Investing involves risk and you may incur a profit or loss regardless of strategy selected. The forgoing is not a recommendation to buy or sell any individual security or any combination of   securities. Be sure to contact a qualified professional regarding your particular situation before making any investment or withdrawal decision.

C14-033719

Paying for College at Your Expense

We all want the best for our children.  In an ideal world, if we could pay for 100% of their college and allow them to graduate with no student debt, most parents would gladly do it. However, anytime you use cash flow to pay for college there is an opportunity cost.  “What else could I have done with that money if I had not used it to pay for my kid’s college?”  The simple answer is that you could be using that money now to put toward your retirement.  You can take loans for college, but you can’t take a loan for retirement.

Opportunity Cost of College Tuition

For some of you reading this, opportunity cost might seem like a foreign idea or an abstract concept that can’t be measured.  However, it is very real and although it can’t be measured to the exact penny, you can make some educated estimates about the potential growth of your savings.

For illustrative purposes, let’s take a look at a hypothetical scenario and measure the potential opportunity cost of paying for college.     

Scenario: John and Jane Smith (both age 35) have 1 son Joe Smith and intend to fully fund 4 years of undergraduate school for Joe.  Their son was born in December of 2013. John and Jane are both U of M graduates and, assuming Joe is as bright as mom and dad, they would like him to go there as well.   In any case they intend to pay for 4 years of U of M starting in 2031. The Smiths consider these costs:

• The cost of U of M for tuition, room, and board is approximately $20,000 in today’s dollars and is estimated to inflate at 6% annually over the next 18 years.

• So the Smith’s estimate the first year of college will cost $57,086, 2nd year $60,511, 3rd year $64,142, and 4th year $67,991. 

• The total estimated cost for 4 years of college is $249,730.

Adding Up the Opportunity Cost

Unfortunately, the cost doesn’t end there.  This is where the concept of opportunity costs comes in. You see, the Smiths didn’t have to set aside these funds for Joe. They could have put them in their retirement accounts instead.  To fully understand the true cost of utilizing those dollars to pay for education, you also have to measure what that money could have potentially grown to at John and Jane’s retirement age of 65.  When Joe starts college John and Jane would be 53.  That means the $249,730 they have set aside could have the opportunity to grow for another 12 years. Assuming a 6% rate of growth the hypothetical account would compound to $502,505.   John and Jane would have the opportunity to add an additional $250,000 to their retirement account.

Having said all of this I’m not advocating kicking the kids out at 18 and changing the locks.  However, I am advocating being informed about the ripple effects of the financial decisions we make.  For people under the age of 40 with no pensions (and social security looking like a shaky proposition) it is imperative that you be efficient with financial decisions.  One of the benefits of working with a professional planner is putting these decisions under a microscope and creating a plan to decide what you can truly afford to do while still maintaining your financial independence.  

Matthew Trujillo, CFP®, is a Registered Support Associate at Center for Financial Planning, Inc. Matt currently assists Center planners and clients, and is a contributor to Money Centered.

Any opinions are those of Center for Financial Planning, Inc. and not necessarily those of RJFS or Raymond James. All illustrations are hypothetical and are not intended to reflect the actual performance of any particular security. Future performance cannot be guaranteed and investment yields will fluctuate with market conditions. Investing involves risk and investors may incur a profit or a loss. C14-017739

Real Estate Rebound: Time to Buy a Home?

As the real estate market starts to climb out of the doldrums and consumer demand begins to increase, you may be thinking of buying. Before you start a house hunt, let’s take a look at some general financial planning rules with regards to what could be the biggest purchase of your life.

Picking Your Price Point

Probably the most important rule to keep in mind when you are deciding which house is right for you is determining what you can afford.   The general rule of thumb is that your principal, interest, taxes, and insurance (commonly referred to as PITI) should not exceed 28% of your gross income.  So to put that into perspective, if your total household income is $100,000 ($8,333/month), you should try to keep the PITI to no greater then $2,333 (28% of $8,333).   Please keep in mind this is a general rule and not an absolute truth.  To make a truly responsible financial decision, you should have a good understanding of your monthly cash flow and determine how much of that $2,333 you can take on without being “house poor”. 

Unless It’s Long Term, Rent

Length of time you plan to be in the home is also a big consideration.  In fact, if you plan on being in the home less then 5 years it’s probably better just to rent. The reason for this is in the first 5 years of a typical amortization schedule, you hardly pay down the principal.  The majority of your monthly payment is going to interest and, unless there is substantial appreciation in the real estate market over that 5-year period, you probably won’t have much equity in the home when you try to sell it.

Prepare for PMI

If you aren’t putting 20% down, then you’re probably going to be subject to private mortgage insurance (PMI), which will increase your monthly payment.  Once you have 20% equity in the home, and a period of two years has passed since the initial purchase date, you can apply to have PMI removed from the loan.  Until that time, you need to be prepared for the additional burden on cash flow.

Moving isn’t cheap! 

The average moving company charges between $1,000 and $5,000 for transporting all your precious possessions from one house to the next so plan on setting aside a little cash for this expense.

Most Common Questions

Purchasing a new home can be fun, but it can also be very stressful. Some common questions that we get a lot from our clients at The Center are:

• Where do I take the money from for the down payment?

• Should I do a 15 or 30-year loan?

• How much should I put down on this house?

Whether this is your first house or your tenth, take a deep breath and be sure to consult with trusted advisors. When you talk through all of these issues, it’s easier to decide if it really is your time to start shopping for a new home sweet home.

Matthew Trujillo is a Registered Support Associate at Center for Financial Planning, Inc. Matt currently assists Center planners and clients, and is a contributor to Money Centered.

The foregoing information has been obtained from sources considered to be reliable, but we do not guarantee that it is accurate or complete, it is not a statement of all available data necessary for making an investment decision, and it does not constitute a recommendation. Any opinions are those of Center for Financial Planning, Inc. and not necessarily those of Raymond James. C14-009197

5 Steps to Being Cautious While Still Taking Life’s Chances

In the arena of finance, risk is inherent.  Think about the risks you take everyday. When it comes to investment expectations there is always the risk that the outcome will be different than anticipated. When it comes to the income your family depends upon, there is always the risk of job loss. When it comes to budgeting, there is always the risk of inflation, which could leave you without enough to keep up with the rising cost of things around you. When it comes to your family, there is always the risk that someone could face a health challenge or a long-term illness.

Learning About Risk

After 25 years working with people, I have seen families lose children and grandchildren to tragedy.  I have witnessed divorce and marriage and have seen first-hand financial windfall and destruction. Helping clients through all this has helped me gain a better understanding of risk tolerance and realize that risk preferences vary greatly.  Most people want to avoid risk as much as possible, but many have to learn that the hard way.  Remember your first loss? The big one? How did it affect you? If it was truly the big one, then it made you sit up and take notice.  It left an impression on you and your decisions.  And it may have given you a deeper understanding of what risk really means.

5 Steps to Managing Risk

Despite the fact that we all must learn to live with risk, there are steps we can take to help mitigate the downside when it comes to financial planning:

1. Diversification, asset allocation and rebalancing: While this won’t make you rich quick, it should help reduce overall portfolio volatility.

2. Insurance: For a relatively small cost you can provide for the safety of a young and growing family for many years and provide protection in case of premature death or disability.

3. Emergency Funds: Always maintain the appropriate emergency balance for your situation.  A simple rule of thumb is 3-6 months of expenses. Then you may want to consider choosing investments that are marketable and liquid for your taxable portfolios.

4. Long-term Care Insurance: To avoid a catastrophic financial blow if a spouse develops a long-term illness and needs expensive health assistance, consider long-term care insurance when you’re in your late 50s.

5. Estate Planning:  By taking just a few minutes to write out a plan, there’s a better chance of things happening as you wish. Write a holographic will (handwritten and signed) or go to your state website and pull off the appropriate documents (like wills, powers of attorney, patient advocate designations, etc.). Complete them or set up a meeting with an estate planning attorney to help you with this process. 

If you need help getting started with any of these steps or making a personal plan to help you prepare for life’s inherent risks, contact me at matthew.chope@centerfinplan.com.

Matthew E. Chope, CFP ® is a Partner and Financial Planner at Center for Financial Planning, Inc. Matt has been quoted in various investment professional newspapers and magazines. He is active in the community and his profession and helps local corporations and nonprofits in the areas of strategic planning and money and business management decisions. In 2012 and 2013, Matt was named to the Five Star Wealth Managers list in Detroit Hour magazine.

Five Star Award is based on advisor being credentialed as an investment advisory representative (IAR), a FINRA registered representative, a CPA or a licensed attorney, including education and professional designations, actively employed in the industry for five years, favorable regulatory and complaint history review, fulfillment of firm review based on internal firm standards, accepting new clients, one- and five-year client retention rates, non-institutional discretionary and/or non-discretionary client assets administered, number of client households served.

Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute investment advice. Any opinions are those of Center for Financial Planning, Inc. and not necessarily those of Raymond James. Diversification and asset allocation do not ensure a profit or protection against loss. Rebalancing a non-retirement account could be a taxable event that may increase your tax liability. Investing involves risk and you may incur a profit or loss regardless of strategy selected. C14-005525