These days, in much of the U.S., the housing market is tilted sharply in favor of sellers. Inventory is tight nationally, home prices are at record highs in many markets, and interest rates are far higher than the sub-5% pandemic-era mortgage interest rates.
According to the National Association of Realtors, by the fourth quarter of 2023, home values rose 4.6% nationally when compared to 2022, due in large part to many homeowners refusing to enter the market amid much higher interest rates than their existing mortgages. While the housing market is expected to improve in 2024, both in terms of inventory and interest rates, the benefits look to be marginal at best. Between Redfin and Zillow, home prices may decrease between 1% to 0.2%. And for interest rates, Realtor.com predicts that mortgage rates in 2024 will average 6.8% and will only fall by 0.3% by the end of the year.
Some reasons for their hesitancy to move may include getting priced out of the housing market; not wanting to take on a new mortgage payment in retirement; not wanting to give up all of the proceeds from the sale of their current home and/or to have drain their retirement savings to pay in all cash; and unease with the current housing and borrowing environments.
What Are the Ways Homebuyers Aged 62+ Can Purchase a New Home?
Historically, there have been two ways to purchase a new home: 1) pay in all cash, or 2) take out a mortgage that requires monthly principal and interest payments.
However, now there’s a third way: Pay using a Home Equity Conversion Mortgage (HECM) for Purchase (H4P) loan.
What Is an H4P Loan?
An H4P loan is a way for homebuyers 62 and older to buy a new primary residence using a HECM (commonly called a reverse mortgage). The H4P loan program is designed to help older adults move closer to their family members and friends; downsize, right-size or upsize into a home that better suits their current needs and wants; or move to a 55+ Active Adult Community.
The homebuyer can purchase a new home by putting as little as 45 percent to 65 percent* of the purchase price down from their own funds — the remainder is funded by the H4P loan. The homebuyer can, and typically does, apply proceeds from the sale of their current home toward the down payment requirement.
While an H4P loan is a mortgage, the borrower is not required to make monthly principal and interest mortgage payments. That’s right, the borrower can defer repayment of the loan balance, so long as they live in the home and pay the property-related taxes, insurance, and upkeep expenses.
So, it feels a lot like an all-cash payment, except you, as the borrower, get to keep more of your retirement assets (e.g., keep more of the proceeds from the sale of your current home) to use as you wish.
Hypothetical Example of How an H4P Loan Can Work
Consider Sue, a retired homeowner, age 73, who wants to relocate and can net $300,000 on the sale of her existing paid-off home. She wants to right-size to a home that’s closer to her family — one that is a single-story and close to the amenities she desires. She finds her ideal home, which is listed at $400,000.
Option 1: Paying all cash
Sue could use all of the proceeds from the sale of her current home ($300,000) and draw down on her retirement savings (use $100,000 out of her available $200,000 in retirement savings) to pay in all cash and own the home outright. While she wouldn’t be saddled with a monthly mortgage payment, she would have all of her previous home’s equity tied up in another very illiquid asset — her new home. Plus, she would have significantly depleted her retirement nest egg, reducing it from $200,000 to $100,000. Her cracked nest egg could hinder her retirement cash flow strategy going forward and increase the chances of her outliving her savings.
Option 2: Taking out a traditional mortgage
Sue could use about one-third of the proceeds from the sale of her current home to make a down payment on her new home using a traditional mortgage. This way, she can keep more of the proceeds from the sale of her current home to use as she wants (compared to all cash), and she wouldn’t have to dip into her retirement savings to complete the purchase.
The downside of this approach is she will take on required monthly principal and interest mortgage payments during a phase of her life when her income is significantly less than it was through her prime working years. This repayment obligation, month after month, year after year, will result in a good chunk of her retirement cash flow being directed to and stored in her home — an asset that isn’t easily liquated. Her diminished cash flow in her golden years could make it more difficult for her to weather financial shocks, like a need to pay for her own long-term care.
Then there’s also the issue of today’s rising interest rate environment: borrowing money is more expensive than it was just a few years ago. With a traditional mortgage, the higher interest rate is, the higher the required monthly mortgage payment is going to be.
Option 3: Using an H4P loan
Sue could use about two-thirds of the proceeds from the sale of her current home to apply toward the down payment of her new home using an H4P loan. This way, similar to the traditional mortgage approach, she can keep more of the proceeds from the sale of her current home to use as she wants (compared to all cash), and she wouldn’t have to dip into her retirement savings to complete the purchase.
The upside of this approach, compared to a traditional mortgage, is that she can defer the repayment of the loan balance, so long as she lives in the home and abides by the loan requirements, which include paying the property charges. This repayment flexibility could help her to establish a more efficient retirement cash flow strategy.
With an H4P loan, she also has increased buying power over the traditional mortgage or all-cash approaches. She’d be well positioned to compete for her forementioned ideal home (without needing to drain her retirement savings or take on a higher monthly payment) if a bidding war broke out, a common reality in today’s competitive housing market.
She could also expand her new home search to include more pricey homes (ones that are double the value of her current home) — essentially, she can purchase a $600,000 home for about half the purchase price down, and still never have to make a monthly mortgage payment again. Of course, she must maintain the home and pay the property-related charges.
NOTE: Story is for illustration purposes only. The persons depicted herein are fictional and any resemblance to actual persons is a coincidence.
How Does a Higher Interest Rate Affect the Loan Balance and Repayment?
When calculating the amount of H4P loan funds available to the borrower (and, consequently, the amount of down payment funds that will be needed from the borrower), the expected interest rate (the 10-year Constant Maturity Treasury plus the lender margin) plays a role — along with the youngest borrower’s age and the purchase price of the home.
Generally speaking, the lower the expected interest rate is — the less funds (as a percentage of the total sales price) the borrower will need to bring to closing as a down payment. Here’s an example:
Lower expected rate
- Borrower Age: 73
- Interest rate: 4.75 percent
- Estimated H4P funds available (as a percent of the sales price): 48.9%*
Higher expected rate
- Borrower Age: 73
- Interest rate: 6.50 percent
- Estimated H4P funds available (as a percent of the sales price): 40.2%*
It is important to note that the loan proceed percentages are estimates based on home values up to the current Department of Housing and Urban Development (HUD) limit of $1,149,825.
What Properties Are Eligible / Ineligible for H4P Loan Financing?
Generally eligible H4P loan properties
- Single family residence
- 2- to 4-unit properties
- Some manufactured homes
- Modular homes
- Planned unit developments (PUDs)
- Townhomes
- Approved condominiums
Generally ineligible H4P loan properties
- Mobile homes
- Cooperative units
- Commercial properties
- Working farms
- Investment or 2nd homes
- Condo projects less than 2 units
- Condos not on approved list
- Properties on Indian reservations
What Are the Borrower Eligibility Requirements for H4P Loans?
- At least one homeowner needs to be at least 62 years old
- Purchased home must be a primary residence
- Must make a required one-time down payment in cash from a qualifying source(s), such as from the sale of a previous home or from a savings account
- Must complete an FHA-approved counseling session
- Must meet minimal credit and income requirements
- Must move into the new home within 60 days of closing
How Does an H4P Loan Hedge Against Falling Home Values?
As history has shown, the housing market can swing from a seller’s market to a buyer’s market, and vice versa. No one knows for sure when the next housing market downturn will come.
Unlike with a traditional mortgage, an H4P loan has a built-in feature that protects the homeowner against the risk of the home becoming upside down. The Federal Housing Administration (FHA) insurance on H4P loans assures the borrowers that they will not be responsible for mortgage debt that accrues beyond the home’s value.
In technical terms, an H4P loan is a non-recourse loan, which means neither the borrower nor their estate will owe more than the value of the home when the loan matures and the home is sold.** So even if the property value drops, or if one or both borrowers live a very long time while deferring repayment, the homeowners can rest easy knowing they will not be leaving their heirs with a bill.
Want to Learn More About H4P Loans?
If you, a loved one or friend are thinking about moving into a new home that is a better fit, we encourage you reach out to us to learn more about H4P loans.
*This information is provided as a guideline. The required down payment on your new home is determined on a number of factors, including your age (or eligible non-borrowing spouse’s age, if applicable); current interest rates; and the lesser of the home’s appraised value or purchase price.
**There are some circumstances that will cause the loan to mature and the balance to become due and payable. Borrower is still responsible for paying property taxes and insurance and maintaining the home. Credit subject to age, property and some limited debt qualifications. Program rates, fees, terms and conditions are not available in all states and subject to change.
