A reverse mortgage is a type of mortgage loan that's secured against a residential property that can give retirees added income by giving them access to the unencumbered value of their properties.
Homeowners who are short on cash and find their home equity is their biggest asset might consider a reverse mortgage when they don’t have any other viable way to raise money for daily living expenses. In this case, they may want to take out a reverse mortgage.
However, this action is not a decision to make lightly because it's probably taken years of hard work to accumulate your home equity; taking out a reverse mortgage means spending a significant part of that equity on loan fees and interest.
Some of the disadvantages to this approach include hefty fees and high-interest rates that can cannibalize a substantial portion of a homeowner’s equity.
- Reverse mortgages allow homeowners age 62 and older to access their home equity to generate income in older age.
- While a reverse mortgage may be ideal for some situations, it is not always best for others.
- Some homeowners end up in a situation where they don’t have any other viable way to raise money for their daily living expenses; in this case, they may want to take out a reverse mortgage.
- You should plan on remaining in your home for the near future if you take out a reverse mortgage.
- Keeping up with your property taxes, homeowner's insurance, and home maintenance is essential if you have a reverse mortgage because if you fall behind, the lender can declare your loan due and payable.
Here are five situations where a reverse mortgage is likely not the ideal strategy, followed by five situations where it might be a reasonable choice. No matter what your situation, weigh the pros and cons carefully. Consider the fees involved and how your situation might change in the future.
Your Heirs' Inheritance
When homeowners die, their spouses or their estates would customarily repay the loan. According to the Federal Trade Commission, this often entails selling the house in order to generate the needed cash. If the home sells for more than the outstanding loan balance, the leftover funds go to one's heirs.
But if a home sells for less, heirs receive nothing, and FHA insurance covers the lender’s shortfall. That is why borrowers must pay mortgage insurance premiums on reverse home loans.
Taking out a reverse mortgage could complicate matters if you wish to leave your home to your children, who may not have the funds needed to pay off the loan. While a traditional fixed-rate forward mortgage can offer your heirs a funding solution to securing ownership, they may not qualify for this loan, in which case, a cherished family home may be sold to a stranger, in order to quickly satisfy the reverse mortgage debt.
Mortgage lending discrimination is illegal. If you think you've been discriminated against based on race, religion, sex, marital status, use of public assistance, national origin, disability, or age, there are steps you can take. One such step is to file a report to the Consumer Financial Protection Bureau or with the U.S. Department of Housing and Urban Development (HUD).
You Live With Someone
If you have friends, relatives, or roommates living with you who are not on the loan paperwork, they could conceivably land on the street after your death. Those boarders may also be forced to vacate the home if you move out for more than a year because reverse mortgages require borrowers to live in the home, which is considered their primary residence.
If a borrower dies, sells their home, or moves out, the loan immediately becomes due. One solution is to list your boarders on the loan paperwork; however, no one living with you under the age of 62 may be a borrower on the reverse mortgage.
You Have Medical Bills
People of retirement age with health issues may obtain reverse mortgages as a way to raise cash for medical bills. However, they must be healthy enough to continue dwelling within the home. If an individual's health declines to the point where they must relocate to a treatment facility, the loan must be repaid in full, as the home no longer qualifies as the borrower's primary residence.
The guidelines in this article refer to home equity conversion mortgages (HECMs), which are backed by the Federal Housing Administration (FHA).
Moving into a nursing home or an assisted living facility for more than 12 consecutive months is considered a permanent move under reverse mortgage regulations. For this reason, borrowers are required to certify in writing each year that they still live in the home they're borrowing against, in order to avoid foreclosure.
You Might Move Soon
If you’re contemplating moving for health concerns or other reasons, a reverse mortgage is probably unwise because in the short-run, steep up-front costs make such loans economically impractical. These costs include lender fees, initial mortgage insurance costs, ongoing mortgage insurance premiums, and closing (a.k.a. settlement) costs, such as property title insurance, home appraisal fees, and inspection fees.
Homeowners who suddenly vacate or sell the property generally have just six months to repay the loan. And while borrowers may pocket any sales proceeds above the balance owed on the loan, thousands of dollars in reverse mortgage costs will have already been paid out.
You Can't Afford the Costs
Reverse mortgage proceeds may not be enough to cover property taxes, homeowner insurance premiums, and home maintenance costs. Failure to stay current in any of these areas may cause lenders to call the reverse mortgage due, potentially resulting in the loss of one's home.
On the bright side, some localities offer property tax deferral programs to help those age 65 and over with their cash-flow, and some cities have programs geared toward helping those age 65 and over with fewer comparative resources with home repairs, but no such programs exist for homeowner’s insurance.
A Solution for Long-Term Problems
To qualify for a reverse mortgage, you must either own your home outright or be close to paying it off. You need to have enough equity that a reverse mortgage will leave you with a reasonable lump-sum monthly payment or line of credit after paying off your existing mortgage balance (provided you still have one).
Getting quotes from three lenders and going through reverse mortgage counseling should give you a good idea of whether it can provide a long-term solution to your financial problems.
Explore how much you could get with each of the payment options available for reverse mortgages. If none of them can provide the liquidity or large up-front sum you need, you’re probably better off avoiding this complicated loan. There may be a better financial solution to your current predicament.
For example, selling your home would allow you to cash out all of your equity, rather than just a percentage of it (as is the case with a reverse mortgage). Renting or moving in with a family member might be a better solution. If you end up taking out a reverse mortgage and then find yourself facing the same financial problems just a few years later, you might regret the time and energy you put into getting a reverse mortgage.
You Don’t Plan to Move
You should plan on remaining in your home for the near future if you take out a reverse mortgage. To begin with, a reverse mortgage comes with high up-front costs. There are lender fees, such as the origination fee—which can be as high as $6,000—depending on your home’s value.
Upfront mortgage insurance is equal to either 0.5% or 2.5% of your home’s appraised value, depending on the reverse mortgage payment plan you choose. And then there are the closing costs, such as title insurance, a home appraisal, and a home inspection.
It doesn't make sense to pay this if you are going to move in a few years. Furthermore, if you move, you’ll have to repay the mortgage. Depending on what you've spent of the cash you obtained by taking out a reverse mortgage, you may not be able to do that. The worst-case scenario is that you'll be left without a place to live.
You Can Afford Ongoing Costs
Keeping up with your property taxes, homeowner's insurance, and home maintenance is essential if you have a reverse mortgage. If you fall behind, the lender can declare your loan due and payable.
If you don’t pay your property taxes for long enough, the county tax authorities can place a lien on your home, take possession, and sell it to recoup the taxes owed. The tax authority’s claim to your property supersedes the lender’s. So, if you don’t pay your property taxes, you’re putting the lender’s collateral (your house) at risk.
Not paying your homeowner’s insurance premiums also puts the lender’s collateral at risk. If your house burns down, there’s no insurance to pay the costs of rebuilding. Your lender doesn’t want to get stuck with a burned-out shell of a home that isn’t worth nearly what you owe on the reverse mortgage.
Not keeping up with home maintenance also causes your home to lose value. If you don’t replace a failing roof, for example, your home could end up with extensive water damage after it rains or snows. Prospective buyers would pay a lower price than they would for similar houses in good repair in your neighborhood. The need to spend money to replace the roof and fix the water damage to return the home to a good condition may deter buyers altogether.
Your Spouse Is 62 or Older
Any borrower on a reverse mortgage must be at least 62 years old. If you’re married and your spouse isn’t yet 62, getting a reverse mortgage is not ideal. While new laws protect your non-borrowing spouse from losing the home if you die first, they can’t receive any more reverse mortgage proceeds after you’re gone.
If your reverse mortgage is set up as either a monthly income stream or a line of credit, your spouse might lose access to a source of income they were depending on. Also, reverse mortgage proceeds are based on the youngest spouse’s age (whether that person is on the loan or not). The younger that age is, the lower the amount you can initially borrow.
If you and your spouse are each at least 62, getting a reverse mortgage might be a good choice. Use an online calculator that is focused on reverse mortgages and talk to prospective lenders or your reverse mortgage counselor about how the value of proceeds you will get changes as you get older.
If you don’t need the money immediately, postponing this loan may be a good way to increase the proceeds (interest rates and home values also determine your proceeds). And between now and then, you might find another solution to your financial concerns.
No Plans to Bequeath Your Home
Some people don’t choose to leave their home to anyone, except their spouse if they're married. If you don’t have children—or your kids are financially successful and inheriting your home won’t make a meaningful difference in their lives—then you probably have no specific plans for bequeathing the home.
Maybe because you worked hard to pay for your home, you just want to cash in your equity and spend it all before you die. You’re perfectly entitled to do so.
Upon your death (or your spouse's death, if you go first), your loan becomes due and payable. Heirs who want to take possession of the house have the opportunity to pay the reverse mortgage balance to the lender and take back the title. However, they can’t always do this. They may not have the cash or qualify to get a regular mortgage to buy your home.
If your heirs don’t purchase the home, the lender will sell it on the open market to recoup the money it has lent you through the reverse mortgage. Any positive balance between the sale proceeds and what you owed goes to your estate. If there’s a negative balance, Federal Housing Administration insurance covers it. So if you’re not concerned about leaving your home to anyone, getting a reverse mortgage might be a good way to get cash.
Reverse Mortgage FAQs
What Are the Costs of a Reverse Mortgage?
Home equity conversion mortgages, the most common type of reverse mortgage, bring a number of fees and costs. To start with, all borrowers taking out a HECM reverse mortgage loan must undergo counseling, which the borrower pays for, from a HUD-approved reverse mortgage counselor. Costs for this counseling will vary. Other fees include origination fees, closing costs, and mortgage insurance premiums, as well as servicing fees to the lender for such costs as sending account statements, distributing loan proceeds, and making certain that you keep up with the loan requirements.
Can You Walk Away From a Reverse Mortgage?
If your outstanding loan balance exceeds the current property value and you can no longer stay in your home, you have a couple of choices. You can either do a deed in lieu of foreclosure or simply walk away. Reverse mortgage loans are non-recourse and its debt cannot be transferred to your estate or heirs.
When Do I Have to Repay a Reverse Mortgage?
Generally, reverse mortgage loans—usually a home equity conversion mortgage (HECM)— must be repaid when you move out of the home or when you die.
Can I Change My Mind After I Sign?
With most reverse mortgages, you have at least three business days after closing to cancel the deal for any reason, without penalty, according to the Federal Trade Commission. To cancel, you must notify the lender in writing. Send your letter by certified mail, and ask for a return receipt. That will let you document what the lender got, and when. Keep copies of your correspondence and any enclosures. After you cancel, the lender has 20 days to return any money you’ve paid for the financing.
The Bottom Line
Reverse mortgages are widely criticized, and for a good reason; they aren't an ideal financial choice for everyone.
If you're cash poor, but a reverse mortgage seems like trouble, there are other options, such as selling your home and downsizing to smaller and cheaper ones. Homeowners may also consider renting properties, which alleviates homeownership headaches like property taxes and repairs. Other possibilities include seeking home equity loans, home equity lines of credit (HELOC), or refinancing with a traditional forward mortgage.
But that doesn’t mean they’re a bad deal for every homeowner, in every situation. Even if a reverse mortgage is an expensive option and not an ideal one, it may still be the best for your circumstances. Here are the ifs: if you will get enough proceeds from the loan to solve your financial problems (in the long run), if you plan to stay in your home long term, if you can afford the ongoing costs of homeownership, if you have a spouse who is 62 or older—and if you don’t plan to leave your home to anyone.