Seniors could choose to employ home equity through a reverse mortgage or other equity-tapping product to manage a series of expenses in retirement, but when it comes to managing their tax burden, it can get more complicated.
Steve Resch, vice president of retirement strategies at industry-leading lender Finance of America Reverse (FAR), told Financial Advisor that the utility can vary when it comes to tax savings.
“It depends on an individual’s tax bracket and their priorities, but there are several options for higher-net-worth individuals,” Resch said. “One option is using home equity to fund a Roth IRA conversion, shielding wealth from higher rates in the future.”
Certain clients can use home equity to pay the taxes on such a conversion, which would include comparing mortgage rates and the projected level of home price appreciation “against the projected growth of income-tax-free Roth assets and whether the client expects to be in a higher tax bracket in the future,” Resch told the outlet.
But the 2017 Tax Cuts and Jobs Act (TCJA) is also scheduled to sunset at the end of 2025 unless Congress acts to either extend or replace it. This also needs to be considered in any potential strategy for wealthy clients.
Gifting the money before the law expires could be an option to explore, Resch said.
“Gifts up to the annual exemption [limit] don’t require a gift tax return [to] be filed,” Resch told Financial Advisor. “High-net-worth individuals could transfer substantial assets to their choice of recipients now with the higher estate tax exemption limits.”
If a wealthy client used a reverse mortgage and gifted the proceeds, there would be no tax liability “unless the gift exceeded the current exemption limit,” Resch explained.
But some financial advisers are hesitant to recommend the strategy. Marci Spivey, a CPA and partner of tax services at Cherry Bekaert in Atlanta said that the strategy may involve other considerations since borrowing costs are high.
“Interest rates are still relatively high, and I’d caution someone using a loan to fund the tax balance due on a Roth conversion,” she told Financial Advisor. “They need to consider all the factors [and] need to have a plan to service and then repay this loan since they are using it to fund a retirement plan, where the cash from that plan may not be available to repay a loan for many years.”
