Navigating the world of mortgages is a common experience for all homeowners. The focus on low interest rates, manageable monthly payments and eventually becoming mortgage free makes sense. But what happens as homeowners get older and still have debt? Should they continue with the traditional mortgage approach or should they look at another option such as a reverse mortgage?
In this article we will compare these options, and provide Canadian homeowners who are 55 years or older (or approaching 55 years) with a starting point so they can make an informed decision about whether a refinance mortgage or a reverse mortgage is better for them.
- A homeowner can borrow up to 55% of their home’s value with a reverse mortgage; they can borrow up to 80% of the value of their home with a refinance mortgage.
- To qualify for a reverse mortgage: you must be at least 55 years old and your income does not matter; to qualify for a refinance mortgage, your age does not matter but you must have sufficient income.
- If you are retired (or approaching retirement) and have a mortgage that is not going to be paid off in a few years, a reverse mortgage would be a better option than a refinance mortgage.
- If you're still working, have steady income and are comfortable with making monthly payments, a refinance mortgage might be a better choice.
Understanding Reverse Mortgages
A reverse mortgage, a financial tool exclusive to homeowners aged 55 and older, allows you to tap into up to 55% of your home's value without selling it. According to HomeEquity Bank, over 93% of Canadian seniors want to retire in their own homes.
This desire is known as “aging in place” and you can learn more by reading our guide to aging in place. Reverse mortgages can make this desire to age in place a reality by providing a steady source of cash flow in the retirement years to supplement pension income.
The Appeal of Reverse Mortgages
Reverse mortgages have gained popularity in recent years, particularly among retirees who find the prospect of a steady income stream appealing.
HomeEquity Bank, the provider of CHIP reverse mortgages and the largest reverse mortgage lender in Canada grew its portfolio by over 23% in 2022 and topped the $5 billion level for the first time.
Here is how CHIP reverse mortgage popularity grew in 2022:
The funds from a reverse mortgage can be used for anything from supplementing retirement income to covering healthcare costs or making homeimprovements. The most popular reason for taking a CHIP reverse mortgage is simply to convert existing debt into a reverse mortgage so that retired homeowners do not have to make ongoing payments.
This overall flexibility is one of the key reasons why more Canadian seniors are opting for reverse mortgages.
Who Qualifies for a Reverse Mortgage in Canada?
Qualifying for a reverse mortgage in Canada is straightforward. You need to be over 55 years old and own a home with substantial home equity.
What does “substantial home equity” mean? In order to be eligible for a reverse mortgage, “substantial home equity” means your existing mortgage does not exceed 45% of the value of your home. The smaller your mortgage is, the better.
Unlike other loans, your reverse mortgage eligibility is not affected by your credit score or low income. You will be approved for a reverse mortgage based on your age and your property value.
To find out how much of a reverse mortgage you could be eligible for, you can visit our online reverse mortgage calculator, which unlike many other online options, does not require you to provide any personal information.
How a Reverse Mortgage Works
With a reverse mortgage, you can choose to receive the money in a lump sum, regular installments, or a combination of both. The loan is repaid when you sell your home, move out, or pass away.
Pros and Cons of Reverse Mortgages
Reverse mortgages offer several advantages, including no monthly payments, easy qualification, and complete flexibility in using the funds. However, they also come with higher interest rates compared to other loans and might decrease your home's equity over time.
To learn more, read our Pros & Cons of a Reverse Mortgage.
Understanding Refinance Mortgages
Refinancing involves replacing your existing mortgage with a new one for up to 80% of the value of your home. This can help you access your home equity, secure a lower interest rate, or adjust your loan term.
Homeowners typically refinance their mortgages every 3-5 years as they try and take advantage of lower rates or consolidate high-interest debt that has built up (eg. credit cards or car loans) into the mortgage with its lower interest rate.
In 2020, the Bank of Canada reported that nearly 35% of Canadian homeowners opted to refinance their mortgages for this purpose.
The Role of Refinance Mortgages
Refinance mortgages play a crucial role in helping homeowners manage their finances. By replacing your existing mortgage with a new one, you can take advantage of lower interest rates and pay off high-interest debt (known as “debt consolidation”), change your mortgage term, or even switch from a variable rate to a fixed-rate mortgage.
This flexibility allows homeowners to adapt to changing financial circumstances or market conditions.
Who Qualifies for a Refinance Mortgage in Canada?
To qualify for a refinance mortgage in Canada, you need a good credit score (usually 680 or higher) and a debt-to-income ratio within certain limits. There is no age requirement to qualify for a refinance mortgage.
Since 2018, Canadian mortgage lenders must also apply a “stress test” to every homeowner to ensure they can make their mortgage payments if interest rates were to rise by 2%.
How a Refinance Mortgage Works
When you refinance, your new loan pays off your old one, and you start making payments on the new loan. You can choose to take out a larger loan than your existing mortgage to access your home equity in cash.
Pros and Cons of Refinance Mortgages
Refinancing can potentially lower your interest rate and monthly payments, and it allows you to keep building equity in your home as you keep making payments on your loan.
However, it requires regular payments, and failing to make these payments could result in losing your home.
Comparing Reverse and Refinance Mortgages
When comparing reverse and refinance mortgages, consider factors like interest rates, payment options, and the impact on your home equity. For example, while reverse mortgages typically have higher interest rates, they don't require monthly payments, which can be a significant advantage for retirees on a fixed income.
On the other hand, refinance mortgages, while offering lower interest rates, require regular payments and a steady income, making them more suitable for those still in their working years.
Choosing Between Reverse and Refinance Mortgages
The best choice between a reverse mortgage and refinance mortgage depends on your individual circumstances and life stage. If you're over 55 and looking for a financial solution that can provide a secure and dignified retirement, a reverse mortgage might be the better option.
If you are retired or approaching retirement and have a mortgage that is not going to be paid off in a few years (the exact number depends on your age and income), a reverse mortgage would be a better option than a refinance mortgage.
That’s because reverse mortgages are designed as a lifestyle product, aimed at easing the financial burdens of retirees. Reverse mortgages allow retirees to focus on enjoying their retirement years rather than struggle to pay down a mortgage that will likely never be paid off completely.
On the other hand, if you're still working, earning a regular income, and are comfortable with making monthly payments, a refinance mortgage might be a better choice. Refinance mortgages allow you to keep building your home equity while potentially lowering your interest rate and monthly payments.
The Debt Dilemma for Over-55s
It's worth noting that many Canadians over the age of 55 still carry significant debt. This trend supports the increasing number of Canadian homeowners who are choosing a reverse mortgage instead of a refinance mortgage.
We expect more homeowners will continue to choose reverse mortgages as the cost of living continues to increase and interest rates are high.
Seek Advice from Expert Advisors
Remember, it's always a good idea to consult with a mortgage advisor before making significant decisions about your home equity. To ensure you are getting truly unbiased advice, make you consult with a mortgage broker rather than a bank employee (who is limited to offering their products).
If you are considering a reverse mortgage as an option, make sure you speak to a mortgage broker who has experience with the product. Not all mortgage brokers are familiar with reverse mortgages or specialize in the area.
In the end, the decision between a reverse mortgage and a refinance mortgage is a personal one. It's about finding the right balance between financial security and lifestyle needs.
By understanding the pros and cons of reverse mortgages and refinance mortgages, we hope you can make a choice that not only meets your financial needs but also supports your vision for a comfortable, secure retirement.
Q1. Will a reverse mortgage affect my government benefits such as CPP or old age security (OAS)?
A. Since the reverse mortgage is a loan and needs to be repaid, it is not considered income and there is no clawback on your government benefits in any way.
Q2. Is it possible to refinance a reverse mortgage?
A. Yes, absolutely. As you get older or your property value increases, you would be eligible for a larger reverse mortgage loan. You could then replace your existing reverse mortgage with this larger reverse mortgage amount.
Q3. What are the costs in getting a reverse mortgage?
A. You would need to pay for home appraisal, legal costs and administrative/closing costs. These are $3500-$4000 and can be paid from the loan proceeds, except for the home appraisal, which is typically paid out-of-pocket and is approximately $500.