4 Ways to Tap Your House for Cash

Even in a down market, you can safely unlock your equity

Mark Miller

AARP The Magazine

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Published November 15, 2011

Back when the housing market was soaring, many Americans thought of their homes as piggy banks that they could crack open at will, whether for renovating a kitchen or funding a retirement.

The Great Recession put an end to that party, and in most of the country the housing market has yet to return to its pre-2007 heights. Meanwhile, many older Americans are coping with roughed-up investment portfolios, low fixed-income yields, and soaring medical expenses. That makes home equity — the ownership built up through mortgage payments and appreciation of your property — a tempting target to tap for cash. And there's a lot of it still locked up in our houses. Eighty percent of Americans over age 65 are homeowners, not renters — a considerably higher rate than for most other age groups, finds the Joint Center for Housing Studies at Harvard University. Total mortgage indebtedness among seniors has risen recently; still, 65 percent of over-65 homeowners were mortgage-free in 2009, according to the U.S. Census Bureau.

Owning your home debt-free offers security and flexibility. But squeezing cash out of it comes with big risks — especially if you take on debt with a reverse mortgage or home equity line of credit (HELOC) that reduces your control of the property. Before signing anything, call a professional financial planner, accountant, or attorney who can help protect your interests.

With those caveats in mind, read on for four ways to transform the roof over your head into cash in your hand.

1. Sell your home

In 2004, Fred Brock was writing The New York Times's Seniority column when the paper offered him an early retirement package. So Brock took a new job teaching at Kansas State University in Manhattan, Kansas. After selling his Dutch colonial in suburban Montclair, New Jersey, for $460,000, he pocketed $235,000 after commissions and other closing costs. "We had bought it 10 years earlier in a down market for $185,000," he says. "So we paid off what was left of our mortgage and paid $200,000 for a house in Kansas that was much nicer and larger, and lived there mortgage-free."

Moving just 50 or 60 miles from an expensive large city will grant you continued access to major airports and hospitals.

The author of Retire on Less Than You Think, Brock is a fan of moving to less expensive locales in retirement. "Even with the decline in the housing market, it's a good idea, because prices are declining most everywhere. You may not get as much when you sell, but you'll get more when you buy."

Brock likes this strategy so much that he's done it twice: Last year he sold his home in Kansas for $226,000 and bought a new place for $179,000 outside Tucson, where he's now an adjunct professor at the University of Arizona. "These are moves that show a progression that anyone can do — and without leverage," he says.

University towns are high on many experts' lists of good locations for retirees, thanks to their affordable housing, cultural amenities, and top-rated medical facilities.

But if you don't want to uproot your life completely, how about seeking cheaper digs nearby? Moving just 50 or 60 miles from an expensive large city will grant you continued access to major airports and hospitals, according to Bert Sperling, president of Sperling's BestPlaces, which analyzes data on people and places around the United States.

"If you live an hour or two away from the city, you can have all that, but you don't have to compete on housing prices with people who need to be closer to the city for their jobs," he says. Depending on real estate values in your part of the country, you could extract hundreds of thousands of dollars in equity from your housing investment (see When it Pays to Move). What's more, federal tax law lets you keep as much as $250,000 of the gain tax-free if you're single, and up to $500,000 for couples. That money can be used any way you like; the rule applies so long as you've lived in the home you're selling for at least two of the past five years.

2. Leverage your home

Reverse mortgages, which are available only to homeowners age 62 or older, were designed to help cash-strapped seniors tap home equity while staying in their houses. As the name implies, these loans are the opposite of a traditional "forward" mortgage, in which you send the lender cash to pay down debt and increase equity. A reverse mortgage pays out the equity in your home to you as cash, with no payments due to the lender until the homeowner moves, sells the property, or dies. The amount you owe increases over time, while the amount of equity decreases. These mortgages are frequently criticized for their high fees, but a new, lower-cost "saver" version introduced last year offers a less costly option for many homeowners.

Home equity lines of credit secured against the value of your property can also provide standby funds in a pinch.

Called a Home Equity Conversion Mortgage (HECM) Saver, the new loan is administered by the U.S. Department of Housing and Urban Development just like a standard HECM, but the amount that can be borrowed is smaller and has far lower costs: an upfront premium of only 0.01 percent of the property's value or HUD's loan limit, whichever is less, versus the standard loan's 2 percent. "It's a tool for hedging against unexpected expenses," says Tom Dickson, national intermediary sales leader at MetLife Bank, the reverse mortgage industry's largest lender.

Financial planner Harold Evensky of Evensky & Katz Wealth Management sees the lower-cost HECM Saver as a partial replacement for his favorite retiree financial tool: a $100,000 cash reserve that can be called on for living expenses instead of drawing down investment portfolios in bear markets. But most people can't set aside that much cash. For them, using a HECM Saver as what Evensky calls a "standby reverse mortgage" might fit the bill. "We can reduce the client's emergency reserve to six months," he says. "If that runs out, you simply tap the reverse and pay it back when things get better."

It is important to note that there are closing costs associated with setting up a reverse mortgage, even if the line of credit is never tapped. Evensky's research team found that using a reverse mortgage as a standby resource helped an investment portfolio last 20 to 60 percent longer in retirement, depending on the scenario specifics.

Home equity lines of credit secured against the value of your property can also provide standby funds in a pinch. They are typically less useful for older homeowners, however, because retirees often have a hard time meeting lender qualification requirements unless they have significant sources of regular income, such as Social Security or pensions. And unlike a reverse loan, the HELOC funds require ongoing monthly payments from the borrower. Also, banks can freeze, reduce, or revoke a home equity line if your equity falls too low — and that's just what happened to many borrowers after the housing bubble burst and home values plummeted.

3. Rent your home back

The tax consequences of such an arrangement will vary depending on the particular circumstances. But in general, sale-leasebacks are complex, so talk to a good real estate attorney and accountant.

What if you've got an adult child who wants to live in the family home — but not quite yet? If he or she can afford it, the child could buy the home from you and then lease it back to you. That's called a sale-leaseback, and it can work in situations where children have substantial assets and are motivated to buy the property. "If the residence is a family heirloom, you could consider selling the home to a child or someone in the family," says Jerry Davis, a CPA and personal financial specialist in Gresham, Oregon. A sale-leaseback additionally could make sense if younger family members see the property as a good long-range investment.

To pull this off, you'd execute two documents — a sale document and a long-term lease. Financing arrangements can vary, Davis says: "It all depends on what Mom and Dad need. If they need a huge pile of cash, then the kids have to find outside financing to make it happen. Or it could be done with a down payment and installment payments going forward."

Let's say a 72-year-old couple is interested in selling the home they own free and clear to an adult son, and in continuing to live there. An independent, fair-market appraisal shows that the home has appreciated from its original purchase price of $50,000 to $450,000 today. The child purchases the home at today's appraised value, with a down payment of $90,000.

The parents then "loan" the rest to the child as a 30-year mortgage with monthly payments of $1,718, reflecting current-market interest rates of about 4 percent. The parents also would make monthly rent payments back to the child, reflecting fair-market rent values — in this case, $1,500 per month. That leaves the parents getting the $90,000 down payment, plus $218 monthly after the rent is paid. Or, if the child obtained bank financing for the amount above the down payment, the monthly payment would go to the bank; the parents would receive $450,000 at closing rather than a monthly payment from the child.

The tax consequences of such an arrangement will vary depending on the particular circumstances. But in general, sale-leasebacks are complex, so talk to a good real estate attorney and accountant. And beware: All manner of familial strife can get inflamed along the way.

"These arrangements may not always work to the retiree's advantage," says Christine Fahlund, a senior financial planner at T. Rowe Price, "especially if one or more of the children is ever sued or goes through a contentious divorce, resulting in a need for the children to sell the property to make ends meet."

4. Share your home

Ten years ago Bonnie Jackson, 68, was hit with the devastating one-two punch of a job loss and a diagnosis of Parkinson's disease. To avoid losing her home in Evanston, Illinois, she turned to home sharing. Today she rents out two rooms in her house, which generates $550 apiece in monthly income — enough to cover her mortgage payments.

She found most of her tenants via North Suburban Homesharing, a nonprofit that facilitates compatible matches across Chicago's northern suburbs. Jackson says home sharing provides more than just much-needed cash: It is a valuable social and support function as her Parkinson's progresses. "It's nice having someone around to help me lift my jacket up to my shoulders when I'm going out," she says.

More than 100 home-sharing programs exist around the country: You can find a list of programs at the website of the National Shared Housing Resource Center. These organizations screen potential tenants for compatibility and often help negotiate the rental agreements.

Of course, not all household tenants need to be screened: According to the latest Census Bureau statistics, 5.9 million Americans ages 25 through 34 are living with their parents — a figure 25 percent higher than before the recession started. If you have a child or other family member who can afford to pay rent and needs housing, asking Junior to move back into his childhood bedroom could help both of you make ends meet. This time, he might even help you do the dishes.

Financial journalist Mark Miller, author of The Hard Times Guide to Retirement Security: Practical Strategies for Money, Work, and Living, wrote about how to protect Social Security in the September-October 2011 issue. He blogs at Retirement Revised.

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