Boomers looking for help selecting a mortgage from the growing array of choices may find there are almost as many opinions among advisors on the matter.
However, a couple of general threads wove their way through all interviews: the choice of mortgage type is client-specific; it should examine assets and risk tolerance; and it depends on the number of years the property will be held.
Most advisors interviewed by National Underwriter favored a generally conservative approach. But there was a strong minority view that leverage, if used properly, could benefit the client.
Jeff Broadhurst, a financial advisor with Broadhurst Financial Advisors, Inc., Lansdale, Pa., says, “I believe that if a person has more than 50% of their home paid off, they should trade up to a larger house or pull equity out. All people, young or old, should own no less than 20% and no more than 50% of their principal residence. The bank should own the rest. Why? Positive leverage and maximum tax deductible interest. If you pay down your mortgage, you lose the benefit of positive leverage and reduce the amount of tax deductions.
“Actually, the optimal amount of equity in a home is 20%. That is why I like an interest-only loan with 20% down. The 20% down avoids mortgage insurance, and the 20% gives them a downside cushion,” Broadhurst says.
But, he also cautions that while leverage can work for a client, the client must maintain fiscal discipline. If a client can do that, then the funds can be directed into other assets such as a ROTH IRA, Broadhurst adds.
He says he likes interest-only mortgages (IOs) with longer terms such as 10-15 years because that is 2-3 times the average duration of the ownership of a home. If the average stay in a home is 5 years, he says, with a 30-year fixed mortgage, you are paying for 25 years of a guarantee you might not need.
In one case, he says he had a client with a 7.5% 30-year fixed mortgage and he had them close on a 10-year IO at 5.5%.
Dan Danford, president of Family Investment Center, St. Joseph, Mo., says he is comfortable with leverage, but his clients are affluent and the successful use of mortgage debt as leverage depends on the property’s quality and appreciation potential. “A good back door escape would be to sell the property, if necessary. If any of these things aren’t [or won't be] in place, I’d likely suggest a conservative mortgage approach.”
Nicholas Gibran, CEO and founder of Nicholas & Co. Mortgage Planners, Ann Arbor, Mich., says that about 65% of the mortgages his firm is closing are 5-, 7- and 10-year interest-only Adjustable Rate Mortgages, and the other 35% are deferred interest Cash Flow ARMs.
A cash flow ARM has several product features that can range from principal and interest payments to deferred interest features.
Nicholas says, “These loans can be dangerous in many situations but work very well in certain cases [such as a lower cost alternative to a reverse mortgage] so long as the home value reasonably can be expected to increase by a very conservative 1.5% per year [even less than the rate of inflation].
“The popularity of unconventional loans such as these points to the reason why financial advisors need to be learning actively about mortgage planning strategies and when these types of loans are suitable for certain clients,” Nicholas adds.
He notes that the use of mortgage options such as IOs and cash flow ARMs work better in regions where there is a strong economy and strong employment. They do not work with clients he calls “financial jellyfish”–those who do not have financial discipline.
But many financial planners are not as enamored of IOs and ARMs.
If an individual is going to be transferred in less than 5 years, then an ARM could make sense, according to George Middleton, a financial advisor with Limoges Investment Management, Vancouver, Wash. But, for periods of longer than 5 years, he would recommend a fixed mortgage.
Calling IOs “dangerous,” Middleton says “there had better be a realistic plan in place to attack the principle in the not-too-distant future. If people are expecting appreciation to bail them out, that’s a bad idea in my view.”
Elaine Scoggins, president of Scoggins Financial LLC, Tampa, Fla., says she believes as a financial advisor and a former bank executive who ran the residential mortgage department that the choice of mortgage depends on the client.
For instance, she says, a young boomer who might move for job relocation or to buy a larger home may find a 7- or 10-year ARM appropriate. The rate difference between an ARM and 30-year fixed mortgage can add up over time, she continues. Also, banks typically prefer ARMs over fixed products and offer low or no origination fees, Scoggins adds.
For older boomers getting ready to downsize, a 7- to 10-year ARM also can work, she says. And, for those staying in their home and nearing retirement, a 15-year mortgage can be useful if they can manage the payments, Scoggins says.