What to Know About Reverse Mortgages
A reverse mortgage is a way to turn part of your home’s equity into cash. This loan is secured by the house itself, and it doesn’t have to be paid back as long as the borrower or co-borrower remain in the home.
Where a traditional mortgage loan shrinks over time as you make payments, a reverse mortgage balance will grow. That’s because you’ll have to pay interest and fees on the loan.
This complex financial product can be the right choice in some cases, but not all. It’s important to examine all the pros and cons. Here’s what you need to know about reverse mortgages.
How does a reverse mortgage work?
Three types of reverse mortgages exist in the U.S. The most common type is a home equity conversion mortgage (HECM). This reverse mortgage is the only one insured by the federal government and is offered only through Federal Housing Administration-approved lenders.
With a traditional mortgage, you buy your home over time by making payments to the lender. A reverse mortgage means that the lender pays you, based on your home’s equity. Typically you don’t have to pay back this loan for as long as you stay in the home.
The loan comes due when you move out, sell your home or die. That could mean you (or your estate) must repay the loan to keep the property or sell the home to pay off the mortgage. Keep in mind that the reverse mortgage balance will include not just the money you’ve received but also interest and fees. However, you won’t have to pay back more than the appraised value of the home.
Will the bank own my home if I take out a reverse mortgage?
No. You keep the title to your home.
Reasons to take out a reverse mortgage
Some borrowers use the money from a reverse mortgage to finance needed home repairs or renovations. Others need to supplement their retirement income, pay off medical or consumer debt, or draw funds for irregular or unexpectedly high expenses. A reverse mortgage also can be used to pay for long-term care services in a facility or at home.
Who is eligible for a reverse mortgage?
You have to be at least 62 years old to apply for a reverse mortgage, and you can take it out only on your principal residence (the place where you live the majority of the time). The home must be in good repair; if it isn’t, the lender will let you know what needs to be done to make you eligible to apply.
If you don’t own the home outright, the mortgage balance needs to be relatively low—specifically, low enough for you to pay off in full when you close on the reverse mortgage. It’s possible to do this with some of the money you get from the new mortgage, which will reduce the amount of cash available.
You cannot be currently delinquent on federal debt, such as federal student loans or income taxes. However, you can use some of the reverse mortgage money to retire those debts.
It’s mandatory to work with an approved reverse mortgage counseling agency to understand the ins and outs of the decision.
How much money can you get?
That depends. The “floor,” or the biggest mortgage the Federal Housing Authority will permit in most of the United States, is $472,030 for a single-family home in 2022. The FHA’s 2022 “ceiling” amount for very high-cost areas is $1,089,300 in 2023.
How much of that you can borrow is determined by your age, the interest rate you qualify for and the value of your home. Typically, older borrowers with expensive homes and lower interest rates will be able to take out more money than younger homeowners with lower-priced homes and higher interest rates.
Note: If a spouse or some other person is included on the loan, then the age of the youngest signer is the one that’s taken into consideration.
How do you receive the funds?
You can draw on your reverse mortgage in several ways:
- Monthly payout;
- Payment over a set period of years;
- Lump sum (this option costs more because you will need to pay fees and interest on the entire amount all at once); or
- Line of credit, to be drawn on as needed.
You may also choose to do a combination of some of these options.
Will the lender take care of things like taxes and upkeep?
As the owner, you are on the hook for ongoing costs such as homeowners insurance, property taxes and HOA fees.
In some cases, the lender might agree to make sure these payments are made. However, the money is still coming from your pocket through the reverse mortgage loan.
Another essential point: You are required to keep up with property maintenance so the home holds its value. The cost of repairs and maintenance is yours to bear.
What if I can no longer live in my home?
If you are away from your home for more than 12 consecutive months due to illness or disability, you will need to pay back the loan. A couple of exceptions exist:
- A co-borrower living in the home. If this person is on the reverse mortgage loan with you, he or she can stay there even if you have to move out.
- An eligible non-borrowing spouse living in the home. The non-borrowing spouse may be able to remain in the home without repaying the loan if the borrowing spouse is in a healthcare facility. It can be tricky to qualify for this under HUD rules, so it’s wise to get in touch with a HUD-approved counseling agency or an attorney.
Again, the spouse or co-borrower must still keep up the home and pay any costs associated with its maintenance.
What if the reverse mortgage winds up higher than the home’s value?
If you’re not able to stay in the home, or if you die and your estate needs to sell the place, it could be that the loan balance is greater than the sale price. But if the appraised fair market value is less than what’s still owed, mortgage insurance will pay for the difference.
How do I apply for a reverse mortgage?
For an HECM, you need to use an FHA-approved lender. The U.S. Department of Housing and Urban Development has two resources that can help:
- A list of HUD-approved reverse mortgage lenders; and
- Referrals to HUD-approved housing counselors who can help you decide whether a reverse mortgage is the right fit for your situation.
Shop around for the best interest rate and terms, just as if you were looking for a traditional mortgage.
Note: You should never pay a service or an individual to find you a reverse mortgage. Be aware of the “special VA reverse mortgage” scam (the Department of Veterans Affairs does not offer these products) and the “contractor scam,” in which unscrupulous contractors urge you to get a reverse mortgage to pay for repairs to your home.
Never allow yourself to be pressured into a reverse mortgage. Instead, do your own research to decide whether it’s the right option, and work with an approved lender.
[ Read: Scams That Target Homeowners ]
What are the pros and cons of a reverse mortgage?
The U.S. Department of Housing and Urban Development (HUD) requires that prospective borrowers meet with a HUD-approved counselor before taking out a reverse mortgage. The government wants to make sure you understand the pros and cons of the decision.
Here are some things to keep in mind.
Pros of a reverse mortgage
It’s a source of ready cash. If you need (or simply want) extra money, you can cash in on your home’s equity.
No DTI requirements. A conventional mortgage has “debt to income ratio” guidelines. Reverse mortgages don’t.
No monthly mortgage payment. This could help lower expenses in retirement, if you want to age in place.
Equity alternative. Taking out a home equity loan or home equity line of credit might cost less overall. However, these loans have income and credit score requirements, which not all borrowers can meet.
Non-taxable income. Since the payments are considered loan advances, you won’t pay any income tax.
Cons of a reverse mortgage
Closing costs. These could include appraisal, surveys, inspections, recording fees, credit checks, title search, initial mortgage insurance premium and loan origination fees of up to $6,000.
Ongoing costs. Interest, mortgage insurance premium, servicing fees and other items may be added to your loan each month.
Equity loss. Because reverse mortgages use the equity from your home, you (and any heirs) will have fewer assets.
Upkeep is on you. If the home falls into disrepair, the lender may require you to pay the loan back early.
Other costs are on you, too. You have to cover homeowners insurance, property taxes and HOA fees.
You could outlive the funds. If you’re younger, there’s a chance you’ll use up the loan. Once that money is gone, it’s gone – and so is the equity in your home.
You could lose the home. Your end of the deal is to maintain the property, reside there most of the year, and stay current on taxes, insurance and other costs. Fail to do that and the lender can foreclose.
The bottom line
A reverse mortgage is not a one-size-fits-all solution. However, it might be the right fit for your particular circumstances. Talk with reputable financial professionals and weigh the pros and cons before deciding to initiate a reverse mortgage.
[ Keep Reading: How to Figure Out How Long Your Money Will Last in Retirement ]