What are Reverse Mortgage Loans?
Reverse Mortgage Definition: Reverse mortgages, which typically come in the form of a FHA Home Equity Conversion Mortgage (FHA HECM), are a form of home equity loan. Reverse mortgages allow seniors to borrow money against the equity in their homes, and the proceeds can be used for virtually any purpose.
What Do People Typically Do With the Proceeds of a Reverse Mortgage?
The potential uses for the proceeds of a reverse mortgage are virtually limitless, but here are some of the more popular options:
- Pay off your existing mortgage
- Pay for living expenses while in retirement
- Remodel your home
- Cover medical costs (e.g., prescription drugs, a home health care aide, etc.)
Benefits of a Reverse Mortgage
- A reverse mortgage can eliminate your current mortgage payment. When you take out the loan you can typically use the proceeds to pay off your existing mortgage.
- You can use a reverse mortgage to take cash out to make up for any shortfall in your retirement savings.
- Reverse mortgage payouts can be customized to your personal needs. You can take out your money in the following ways: (1) a one-time lump sum distribution, (2) a continual monthly payment from the lender, which is called “tender,” or (3) a line of credit, which you can draw on as needed.
- The proceeds from your reverse mortgage are generally tax-free.
- If you go “underwater” on your reverse mortgage you are generally not liable for the difference.
- After you take out a reverse mortgage, you are allowed to continue living in your house for the rest of your life as long as you live in the house. Even if you drain out all of the equity in the home, the bank can’t ever force you to move.
What are the Disadvantages of a Reverse Mortgage?
- Your heirs would need to pay off the reverse mortgage, but this is generally covered by selling the house.
- Similar to the closing costs associated with buying or refinancing a normal “forward mortgage,” there are fees associated with obtaining a reverse mortgage. However, you can generally cover these fees with the proceeds from your reverse mortgage.
- You are still required to pay property taxes after you obtain a reverse mortgage, but people often pay for this with the proceeds from their reverse mortgage.
Reverse Mortgage Rules
A reverse mortgage is typically repaid by selling the house. You reverse mortgage needs to be paid in full upon the occurrence of any one of the events below.
- When the last surviving borrower on the reverse mortgage loan dies
- If you allow the property to significantly deteriorate (e.g., beyond normal wear and tear)
- If all of the reverse mortgage borrowers on the loan fail to live in the home for 12 months in a row (e.g., if you move out of the home)
- If you do not pay property taxes, insurance, condo fees, etc.
Also, the Department of Housing and Urban Development (HUD) requires you to obtain counseling before you obtain a reverse mortgage.
Who is Eligible for a Reverse Mortgage?
Your reverse mortgage eligibility starts when you turn 62 years old. If there are two borrowers on the loan, they both need to be 62 or older. Some other reverse mortgage eligibility requirements include the following:
- You must own the house free and clear. However, you can pay off your existing mortgage with the proceeds from the reverse mortgage.
- The reverse mortgage must be for a single family (1 to 4 unit) owner-occupied home. This includes detached homes, townhouses, condos, and some manufactured homes.
Home Equity Loan Vs Reverse Mortgage
Reverse mortgages are a form of home equity loan. Reverse mortgages generally don’t need to be paid back during your lifetime, which can be convenient. However, reverse mortgage fees are often higher than that of home equity loans. Home equity loans are generally better for people who have a short-term need for cash, whereas reverse mortgages are better for people who are seeking funds for the long term that do not need to be paid back.
How Do Reverse Mortgages Work-Example
- Step 1 — Talk with your financial advisor to see if a reverse mortgage is right for you
- Step 2 — Reach out to lenders that offer reverse mortgages and find the best deal. Some of the biggest reverse mortgage lenders include Security One Lending, AAG Reverse Mortgage, and Generation Mortgage.
- Step 3 — Work out the terms of your reverse mortgage (e.g., do you want a one time lump sum payment, access to the funds in a line of credit etc.)
- Step 4 — Sign the paperwork and enjoy spending the reverse mortgage proceeds!
How much can I get from a reverse mortgage?
Now it’s time for the big question you may have been asking yourself – how much money can I get from a reverse mortgage? It is up to the lender, but you can generally borrow about half of the value of your house depending on your age. Everything else being equal, the older you are, the more of your home’s value that you can extract with a reverse mortgage. The size of your reverse mortgage is also influenced by the current level of interest rates and the size of closing costs on the reverse mortgage.
Reverse Mortgage Pitfalls
Although reverse mortgages offer many benefits, you should be aware of the following potential pitfalls:
- If you get a reverse mortgage, don’t move out of your house for 12 months or longer as it could result in your reverse mortgage becoming immediately due and payable.
- Make sure you discuss your plans to obtain a reverse mortgage with your financial advisor, which can help you make a more informed decision.
- Generally the amount of equity you can withdraw from your home with a reverse mortgage will go up over time because of (1) your more advanced age, (2) house price appreciation, and (3) reduction in mortgage principal over time if you are still paying a mortgage. However, if you know you want a reverse mortgage, it is a mistake to wait to obtain a larger amount of proceeds because fluctuations in interest rates can result in a reduced maximum reverse mortgage amount.
What are your thoughts on reverse mortgages? Share your comments below to continue the discussion.