Stacking Tax Deductions Using A Reverse Mortgage
Using a Reverse Mortgage can do more than just turn off your mortgage payment, it can be a very beneficial tax strategy – keeping more of your wealth where it belongs—in your pocket.
Here’s an example of how this works:
Let’s say you decide to buy a right-sized home for your retirement at $600,000. You’re able to put down $300,000 from the sale of your previous home, and then take out a Reverse for Purchase Mortgage for $300,000.
STEP 1:
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You let the interest accrue for several years, while the balance is negatively amortizing–until the balance is $360,000.
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If, and when it makes sense during the term of your loan, you would make a voluntary distribution from your IRA for $60,000 which triggers a 1099 as ordinary income.
STEP 2:
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Make a voluntary $60,000 interest payment to your Home Equity Conversion Mortgage – Line of Credit (HECM – LOC), reducing the balance owed to $300,000. That triggers a 1098, as accrued interest–and maybe MIP, depending on congress each year–and is deductible in the year it is paid.
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That would be deductible under current tax rules as mortgage interest (or MIP) on Schedule A and it is well over the $24,000 (or $26,000) standard deduction.
- You may do elective medical, charitable contributions and of course, stack any real estate taxes as well that particular year.
- It may even be possible to withdraw $70,000 or $80,000 instead of just $60,000 depending on other deductions and your income that year.
- At this point you may be concerned that you’ve lost some of your liquidity because of paying that huge interest amount—especially since the whole purpose of a Reverse Mortgage is to increase cash on hand by allowing the equity in your home to decrease—but you still have access to your money. Let us explain.
STEP 3:
- Remember, any payment to a Reverse LOC, even if it is all interest and MIP, allows a dollar-for-dollar increase in the amount that is available to borrow.
- You can take out any or all of the available credit as a tax-free distribution since borrowed funds are not taxable funds.
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In this example, your $60,000 would be available within a few days to withdraw tax-free and you would still be able to get the tax deduction from the 1098.
- Or, another option would be that the $60,000 can stay in the Line of Credit and continue to grow at 5%. If you don’t need the money, you would have roughly $63,000 after a year that could then be partially or fully drawn out tax-free.
- You can do this every 2-4 years–whenever the interest balance substantially exceeds the $24,000 or $26,000 standard deduction that every couple gets whether they have a mortgage or not.
- A substantial amount of IRA distributions can be offset by consistent, voluntary pay-downs of the Reverse Mortgage without ever needing to worry about keeping those funds liquid, because you can borrow some or all of it back at any time, having access to it within a matter of a few days.
There are rules surrounding how long the funds are paid down and taken out —and as issues become more clarified in the TCJA tax code — we strongly encourage that a CPA should be consulted on any tax issue—but this is one way to leverage the money you have locked in your home right now and put it to work for you during your retirement.
If you have any questions about stacking tax deductions with a Reverse Mortgage Loan, please contact us—we’d love to have a conversation with you!