It’s easy to see how the rising cost of living can hurt seniors living on a fixed income, but there is additional inflation risk for seniors who have to borrow more from their homes to meet these costs. additional.
Much of the attention has been focused on the impact of the possible rise in mortgage rates on new homebuyers and much less on the impact it will have on older homeowners who tap into home equity. their home through reverse mortgages and home equity lines of credit (HELOCs).
HOW REVERSE MORTGAGES WORK
Reverse mortgages allow homeowners aged 55 and over to borrow money tax-free on the equity they have accumulated in their home, up to 55% of the home’s value. Legal ownership belongs to the owner and the amount borrowed, interest and unpaid charges are not due until the property is sold or transferred, or the owner dies.
Conditions may vary depending on the owner. As the name suggests, reverse mortgages are similar to conventional mortgages, but instead of making payments into the house, they flow. This means that instead of the principal (amount owed) decreases over time, the principal increases over time.
The combination of rising lending rates and the need to borrow more to cope with inflation will worsen the total debt burden and erode home equity; leaving less when the owner moves or dies.
HOW HELOCS WORK
A home equity line of credit is a much cheaper option than a reverse mortgage, but it is still sensitive to rising interest rates. HELOCs allow homeowners to borrow as they please by simply transferring money when they need it.
There are normally some upfront costs associated with setting up a HELOC. Legal and appraisal fees can run up to a few hundred dollars. In some cases, the bank will bear the cost of the appraisal because they need to know the real value of the property to be sure their loan is secured. Borrowing limits can be up to 85% of the appraised value of the home less any outstanding debt on the first mortgage.
The interest rate on HELOCs is usually tied to the prime rate of most banks and the difference can be negotiated. If the rate is variable, however, the principal will be very sensitive to increases in interest rates. In some cases, a lender will offer fixed term home equity loans over different time periods, like a conventional mortgage, but HELOC rates remain sensitive to rising interest rates whether or not the principal increases.
Rising home prices over the past few decades have allowed homeowners to reevaluate their homes and increase the amount they can borrow on their homes for reverse mortgages and HELOCs, but there is no guarantee that house prices will continue to rise.
Central banks will raise rates as needed in the new year to cool the economy, which is largely overheated in Canada by the housing market.
If home prices stagnate, homeowners who need to increase their borrowing limits will run into a brick wall as their home equity will not be enough to cover the amount owed.
If house prices fall, the outcome could be even worse for homeowners near their borrowing limits.
Under Canadian law, lenders cannot confiscate a home, but as homeowners need more money to meet living expenses and interest payments rise, they could be forced to sell. to cover their loans or to leave little or no equity to the beneficiaries upon their death.
Considering the popularity of home equity loans in Canada right now, it is worth thinking about.