Contrary to what you think, that dream home may not be out of your reach. Although retirees may no longer have paychecks coming in, they can still qualify for home mortgage loans. Lenders are open to providing loans for people enjoying the best years of their lives, and the Equal Credit Opportunity Act forbids lenders from discriminating against applicants based on their age.
Like any other type of loan, home mortgages have specific requirements that must be met by applicants. Lenders must analyze the same factors for all borrowers, no matter how old they actually are. To be approved for loans, retiree applicants must prove that they are well able to repay them. And with mortgage interest rates at historic lows, this might be the perfect time to buy your bucket list home in a retirement community.
Sources of Retirement Income
In order to qualify for a home loan in retirement, you have to verify that you have the following:
- Dependable income now
- Dependable income for the foreseeable future
- Good credit
- Little or no debt
Your retirement income can come from different sources, like an annuity or a pension. It's important to know that certain pensions will reduce the income amounts to surviving spouses, so this should be looked into if you're in this category. Social security income also counts, but it too may be reduced or expire if the beneficiary passes away.
To be considered as retirement income, investments like IRAs, 401(k)s, and Keogh plans must allow the retiree unrestricted access without any associated penalties for early withdrawal. In most cases, the person must also be over age 59 ½ years to receive these monies, and the distributions have to continue for three or more years after the mortgage application. If any of these accounts include stocks, mutual funds, or bonds, the lender may only use “70 percent of the amount received as income due to their volatile nature.”
If the mortgage applicant is using annuities as a source of retirement income, it must be shown that the income will keep coming in for three or more years.
Credit and Debt
Depending on the type of loan you seek, your credit score requirements will vary; for example, FHA loans ask for large down payments from applicants with lower credit scores. These scores also affect interest rates—the better your score is, the lower your interest rate will be.
The amount of debt one carries will also affect whether or not the mortgage application is approved. Debt includes everything: credit cards, current mortgage payments (with homeowners’ insurance and property taxes), student loan payments, alimony, child support, and car payments. Some lenders will make exceptions, but in general, the amount of all debt has to be no more than 43 percent of the loan applicant’s gross monthly income.
Plenty of Loan Options
Veterans and other service members (and their surviving spouses) have the option of applying for VA loans. These are offered by banks and mortgage companies and are guaranteed by the U.S. Department of Veterans Affairs. Some of them also have features that allow borrowers to grab low interest rates when refinancing existing VA loans.
There are other perks and a few disadvantages that come with getting VA Loans. Keep the following in mind when considering these kinds of loans:
- You may qualify for no down payment.
- You might not have to purchase private mortgage insurance.
- There's a funding fee: About 2.3 percent for first-time VA loan applicants, and 3.6 percent for those who have had VA loans in the past.
- Funding fees can be figured into the loans.
- The debt-to-income ratio for VA loans is 41 percent or less.
- Some residual monthly income is necessary for approval.
Reverse mortgages, or Home Equity Conversion Mortgage (HECM), benefit homebuyers and homeowners ages 62 and up. Started in the 1980s, traditional reverse mortgages use a home’s equity monies to make payments to the homeowners, providing them with funds to use during their retirements. This is not taxable income.
A few decades later, HECM added a new modification to help this group with new home mortgages. The HECM for Purchase option does require a down payment, and there's only one set of closing costs. The home’s purchase is financed through the equity from the down payment, and the new home’s value is the basis for the reverse mortgage loan amount.
With reverse mortgages, borrowers may have to provide large down payments, verify their funds and income, and meet loan-to-value ratios. The mortgage repayment is deferred until the loan maturity date, so there are no monthly payments to deal with. Homeowner’s insurance and property taxes must still be paid, though. Applicants should know that there are often large upfront and backend costs associated with reverse mortgage loans.
Federal Housing Administration (FHA) Loans are insured by the Federal Housing Administration and appeal to many retiree homebuyers. FHA Loans have more flexible credit requirements and offer lower down payments than traditional loans, which are generally 20 percent. Here are some parameters:
- With a credit score of 580 or more, applicants can put down just 3.5 percent as a down payment.
- Credit scores from 500 to 579 require 10 percent down.
- Mortgage insurance is required. This can be paid once, upfront, or computed annually and paid as part of the homeowner’s monthly mortgage payment.
Rural Housing Loans
Rural Housing Loans, like the Single-Family Housing Direct Home Loan, are sponsored by the United States Department of Agriculture (USDA). These offer home loans and financing options to rural homeowners, low-income rural residents in multi-unit housing, the elderly, and the disabled. Payment assistance such as subsidies that lower mortgage payments may be provided. Interest rates can be lowered significantly, and no down payments are needed.
These USDA loans are only available in certain parts of the country. Check if you're eligible.
Moving Money Around
One way for retirees to source income for a mortgage is to do a “drawdown on assets.” Borrowers who are at least 59 ½ are permitted to use recent retirement account withdrawals as proof of income, and a financial advisor can be a good resource for figuring out the best way to do this. Your lender will need documentation from the financial institution to show that this income is reliable.
The “asset depletion” method is another avenue worth looking into. Some lenders are willing to take the current value of the borrower’s financial assets and subtract the down payment and closing costs. After looking at what's left over, the lender takes 70 percent and divides it by 360 (months). That number is the monthly income the lender will use to qualify the borrower. According to thebalance.com, the drawdown on assets method allows borrowers to make down payments as low as five percent, while the asset depletion route comes with higher down payments, which are closer to 30 percent.
Other Sources and Proofs of Income
Another thing that lenders look at is the amount of liquid assets the borrower will have after the house has closed. They will need to see “ at least six months of total housing expense (PITI) as a minimum remaining reserve” for the borrower to be approved. This is estimated by adding up all the homebuyer’s verifiable financial assets and using 60 to 70 percent of that total.
To increase this number, retirees can also look to their monthly annuity incomes, pensions, and Social Security checks as sources of income. To show that you're receiving Social Security payments, hold on to the original letter from the Social Security Administration that shows your qualification, plus some recent pay stubs or bank statements that show the deposits.
Retirement award letters may also be requested by lenders, since they show the beginning and ending dates for this kind of income. You'll also need to show tax returns and 1099s for the previous two years. Lenders will also need proof of any other income sources you might have, like disability income or alimony.
This can also be a good time to sell that unused second car, timeshare, or other costly items that are no longer needed. Those who have homes to sell are fortunate if their homes’ value has increased, as they can use the profit for down payments and income. However, this could involve a waiting period between selling the old house and being approved for the new loan.
Retirees who use nontaxable income like disability benefits to qualify for mortgages can benefit from "grossing up." In other words, when lenders use taxable income like work salaries to qualify borrowers, they use the figures shown before anything like taxes are taken out. When nontaxable income is used, lenders can add an extra percentage, or “gross up,” onto the income that helps homebuyers get approvals.
There are other ways to help retirees apply and gain approval for home mortgage loans, and in many cases, the lender will be able to offer suggestions. If this doesn't prove fruitful, reaching out to an accountant or other advisor may be the best step towards making your retirement move.