Retiring can be a daunting task, especially if you are not entirely sure how you will support yourself financially. One option that’s available to seniors is the reverse mortgage. The equity of your home can be an important financial resource during retirement, and a reverse mortgage can give you the flexibility to use it when and how you want.
A reverse mortgage is a unique type of loan where the lender makes payments to the homeowner. It allows you to borrow against the equity you have built up in your home and can be an attractive option for seniors. However, there are also some drawbacks to consider before making a decision, so it is important to understand the reverse mortgage pros and cons as well as the terms of the loan before taking one out.
What Is a Reverse Mortgage?
A reverse mortgage is a mortgage loan available to homeowners 62 years of age or older that enables them to convert a portion of the equity in their homes into cash. The mortgage is “reversed” because the lender makes monthly payments to the borrower and not the usual way around.
Reverse Mortgages can be an attractive option for seniors who are “house rich but cash poor,” meaning they have significant equity in their home but little income each month. Unlike a traditional home equity loan or second mortgage, you don’t have to make monthly payments on a reverse mortgage. Instead, the loan balance is repaid when the last surviving borrower sells the property or dies. If the sale of the property doesn’t cover the loan balance, your heirs are not responsible for paying any remaining debt. Reverse mortgages are available through private lenders and are insured by the Federal Housing Administration (FHA).
Types of Reverse Mortgages
1. Single-Purpose Reverse Mortgage: This type of loan must be used for a specific purpose, such as home improvements or property taxes. It is typically offered by local or state governments and nonprofit organizations, so choosing the best and worst states to retire in is one important factor when deciding where to buy a home.
2. Federally Insured Reverse Mortgage: Also known as a Home Equity Conversion Mortgage (HECM), this type of reverse mortgage is insured by the Federal Housing Administration (FHA). The disbursements must be taken as a lump sum or a series of monthly mortgage payments.
3. Proprietary Reverse Mortgage: This is a private mortgage that is generally only available to homeowners whose homes are appraised at higher values. Federally backed home equity conversion mortgage property that is worth more than the 2022 lending limit of $970,800 can qualify for proprietary Reverse Mortgages. This type of loan offers more flexibility in how borrowers can receive their loan proceeds. Borrowers can choose to receive a lump sum payment, a series of monthly payments, or a combination of both.
What Are the Reverse Mortgage Qualifications
To qualify for a reverse mortgage, you must meet the following qualifications:
Age: Reverse mortgages allow seniors to access home equity while continuing to live in their homes. To qualify for a reverse mortgage, you must be at least 62 years old. If you have a spouse, they must also be at least 62 years old and must be listed as a co-borrower on the loan.
Equity: The amount of equity required varies depending on the type of reverse mortgage, but it is typically between 30 and 50 percent. Homeowners with more equity can usually qualify for a larger loan amount.
Property type: The home must be a single-family dwelling, a condominium, a townhouse, or a manufactured home built on or after June 15, 1976. The property must be the borrower’s primary residence.
HUD-approved counseling sessions: TheU. S. Department of Housing and Urban Development (HUD) requires HUD-approved counseling sessions for anyone interested in reverse mortgages. The counseling helps potential borrowers to understand the terms of the loan and what they can expect. The counseling sessions are conducted by HUD-approved counselors who are experienced in helping people navigate the reverse mortgage process.
Your responsibilities: Borrowers are responsible for paying property taxes and homeowners insurance. Additionally, reverse mortgage borrowers must live in the house for longer than one year and maintain the property in good condition. Failure to meet these obligations can result in the borrower owing more money than the value of the home.
How Does a Reverse Mortgage Work?
Mode of payment: The homeowner has the flexibility in terms of how they receive payments and only pays interest on the proceeds received.
Interest: Because you are not making any payments on the loan, interest accrues on the unpaid balance. When the loan comes due, either when you sell the house or when you die, the interest is repaid from the proceeds of the sale.
Collateral: The home itself serves as the collateral for the loan. This means that if the borrower fails to make the required payments, the lender can foreclose on the property and recoup their losses. Because the home is typically the borrower’s most valuable asset, it provides a strong incentive for them to keep up with their payments.
Costs: Because reverse mortgages are federally insured, there are certain costs associated with them. These include an origination fee, which is a one-time charge paid by the borrower at closing, and an up-front mortgage insurance premium, which are usually paid from the loan itself.
Reverse Mortgage Application Process
If you meet the reverse mortgage qualifications and decide it is right for you, here’s how the process works:
1. A lender will appraise your home to determine its value.
2. You will choose how you want to receive the money from your reverse mortgage – in lump sums, monthly payments, or as a line of credit that you can draw on as needed.
3. You will also choose whether you want to make interest payments on the loan or let them accrue and be added to the loan balance.
4. Once you close on your reverse mortgage, you will continue to own your home and will continue to be responsible for paying your property taxes and insurance and maintaining your property.
5. As long as you live in your home and comply with the terms of your reverse mortgage, you will not have to repay the loan until after you sell or die. At that time, if there is still a remaining balance on the loan, it will either be paid off from the proceeds of the sale of your home or passed on to your heirs.
Pros of Reverse Mortgages
Reverse mortgages can be a useful tool for seniors who need extra income, but they also come with some risks. It’s important to understand the reverse mortgage pros and cons before taking out this type of loan.
Supplemental Security Income for Seniors
A reverse mortgage can provide a steady stream of income during retirement. Seniors and retirees who have reverse mortgages can use the money from the loan to supplement their social security or pension payments. It can also give retirees some much-needed financial breathing room. The lump sum of cash can be used to pay off debts, make home repairs, cover medical expenses or spend a relaxing vacation in the best mountain towns in the US.
Stay in Your Home
With a reverse mortgage, borrowers can stay in their homes as long as they want. There are no restrictions on how long you can stay in your home once you have a reverse mortgage, unlike with a traditional home equity loan where borrowers typically have to repay the loan within 10 years. This gives seniors peace of mind and a nice quite life knowing they can stay in their homes for as long as they want.
No Monthly Payments
The loan is not due until the house is sold or the borrower moves out, so seniors can use the money from the loan to cover their living expenses without worrying about making a mortgage payment each month.
Flexible Repayment Options
Borrowers can choose how much they want to repay each month. Until the borrower moves out, dies, or sells the home, the loan does not have to be repaid, so there is no risk of foreclosure.
Offers More Flexibility than a Traditional Home Equity Loan
Borrowers can choose how they want to receive their money, whether it’s in a lump sum, as a line of credit, or in monthly payments. This flexibility can be helpful for seniors and retirees who want to be sure they have access to cash if they need it.
Cons of Reverse Mortgages
Borrowers May End Up Owing More Money
If housing prices decline, borrowers could find themselves “underwater” on their loan – meaning they owe more than the property is worth.
Not Available For All Seniors
Reverse mortgages are typically only available to seniors who own their homes outright or have very little remaining debt on their traditional mortgage. As a result, borrowers who still owe a significant amount on their mortgage may not be able to qualify for a reverse mortgage.
It Can Be Expensive
The fees associated with the loan can eat up a significant portion of the borrowed amount. Additionally, the interest rate on reverse mortgages is typically higher than the rate on traditional home loans. As a result, borrowers can end up owing more than the value of their home if they stay in the house for a long time.
Senior’s Needs-based Programs Can Be Affected
A borrower’s eligibility for other types of assistance, such as Medicaid can be jeopardized. If borrowers take out too much money from their home equity, they may no longer qualify for needs-based programs like Medicaid.
Terms Can Be Complicated
Reverse mortgages can be difficult to understand, and borrowers may end up making poor decisions if they do not fully understand the terms of the loan. It can also put a strain on family relationships.
Reverse Mortgage Frequently Asked Questions
When do you need to pay back a reverse mortgage?
The loan is repaid when the homeowner sells the home, moves out of the home for more than a year, or passes away. If the homeowner fails to maintain the property, stops paying their homeowners insurance premiums or property taxes, or otherwise defaults on the loan, they may be required to repay the loan in full.
Who owns the house on a reverse mortgage?
With reverse mortgages, you can borrow against the equity in your home without affecting your title. Unless you fail to satisfy the loan’s requirements, the lender will not take ownership of your house and will not get to change its value. The lender simply loans payments to you on top of your regular mortgage amount.
Can heirs leave a reverse mortgage?
Yes, an heir can withdraw, and in this case, the lender can sell the property to fully settle the balance. If there’s not enough money left over to close the loan, the heir won’t have to pay any difference.
What happens to your existing mortgage with a reverse mortgage?
Your lender will require you to settle any mortgage on the property and any home equity loan or home equity line of credit. You can use the proceeds from your reverse mortgage to pay off the debt; or pull from your savings or other assets.
What are the alternatives to a reverse mortgage?
Cash-out refinancing, home equity loans, and home equity lines of credit are good options to explore if you want to tap your home equity. With cash-out refinancing, you replace your existing loan with a new, larger one and receive a lump sum of cash in return. Home equity loans are a second mortgage, while HELOCs perform like credit cards which you can withdraw from as needed.
Overall, reverse mortgages can be a helpful tool for seniors who need extra income during retirement. When used wisely, it can help seniors maintain their independence and quality of life. However, it’s important to understand the pros and cons before taking out a reverse mortgage. As with any financial decision, borrowers should consider whether they are comfortable with the risks involved before making a decision and consult a counselor or financial advisor. Our real estate experts at Homes by Ardor can help you weigh the benefits and drawbacks specific to your situation.