What is a reverse mortgage and how does it work? Is it feasible for seniors? Reverse mortgages are fully explained here, so read now to learn more
Put simply, a reverse mortgage is a loan. Homeowners who are 62 years old or older with home equity built up can borrow funds against the value of their property, getting money in a fixed monthly payment, a lump sum, or a line of credit.
Unlike the mortgage used to purchase the property initially, this type of loan does not require the homeowner to make any payments. While this is an ideal situation for many in retirement age, there are other instances when it is best avoided.
Here is everything you, or your clients, need to know about reverse mortgages. Pass this article along to clients with questions to give them more to consider after they leave your office.
What is a reverse mortgage?
A reverse mortgage (sometimes referred to as equity release) is a loan that provides you access to money from your home equity while you still live there. In other words, you do not have to sell your property to gain access to that equity.
Factors that determine the loan amount
While you can borrow as much as 55% of the current value of your property, the maximum amount you are eligible to borrow depends on a few factors, such as:
- Your age
- The appraised value of your home
- Your lender
When do you pay back the loan?
- When you sell the home
- When you move out of the home
- When the last borrower passes away
Essentially, you do not have to make any payments until the loan is due. The longer you wait until making the repayments on the reverse mortgage, however, the more money you will owe in interest. You might also have less equity in your home at the end of the loan term.
Who is eligible?
To be eligible for a reverse mortgage in the USA, you must:
- Own the home
- Be 62 years old (minimum)
When applying for a reverse mortgage, you will have to include on the application everyone listed on the property’s title, and they all must be at least 62 years old to be eligible. Typically, lenders ask applicants (and anyone on the application) to get independent legal advice, as well as verification that the applicant received the legal advice.
Read next: Five alternatives to a reverse mortgage
What do lenders consider?
When reviewing reverse mortgage applications, lenders usually consider the following:
- Your age and the age of anyone registered on the title of the property.
- Where the home is located.
- The condition of the home, the type of the home, and the appraised value.
Finally, the home you want to take the reverse mortgage out on must be your primary residence, meaning you reside there at least six months per year.
Reverse mortgage: What to consider
For regular mortgages, you pay your lender each month to purchase your property over the long term. For reverse mortgages, the lender pays you. This is because a reverse mortgage takes a portion of the equity in your property and converts it into payments to you, which resembles an advance payment on your home equity. Typically, the funds you receive are tax-free and you usually do not have to repay the money for the entire time you reside in the home.
Property title. When you get a reverse mortgage, you also maintain the title to the property. And not only is the money you receive not taxable (in most cases), but it usually does not impact your Medicare or Social Security benefits. While the loan must be repaid if the last surviving borrower passes away, moves out, or sells the property, there are situations where a non-borrowing spouse could potentially remain in the house.
Fees, other costs. The origination fee and other closing costs that most reverse mortgage lenders charge do add up. Not only does this include potential servicing fees throughout the life of the mortgage, but some lenders also charge mortgage insurance premiums.
Owing more over time. Interest accumulates onto the balance that you owe every month as you receive the funds. This means that you owe more money as the interest on the reverse mortgage accumulates over the long term.
Changing interest rates. Typically, reverse mortgages have variable rates. That means they change with the housing market since they are linked with the financial index. Those types of loans also provide more options on how you receive your funds through the reverse mortgage. While some reverse mortgages offer fixed rates, you are usually obligated, at closing, to take the loan as a lump sum. Oftentimes, the amount of money you can borrow is less than you would receive with a variable-rate loan.
Interest is not tax deductible. Until your loan is repaid, either in part or in full, the interest is not deductible on income tax returns.
Spouse. In some situations, your spouse can keep living in the home if he or she pays insurance and taxes and maintains the home. Since he or she was not a part of the loan agreement, however, your spouse will stop receiving funds from the home equity conversion mortgage, or HECM.
While there are many things to consider about reverse mortgages, it is important that you know how much money it is going to cost you in fees and other costs—as well as over time. Variable interest rates, tax benefits (or lack thereof), and what rights your spouse has after you pass away should also be considered beforehand.
Reverse mortgage: What are the different types?
There are three different types of reverse mortgages:
1: HECM. This is the most popular form of reverse mortgage, which is federally insured and often comes with higher up-front costs. On the plus side, however, the money you receive can be used for anything and you decide how to withdraw the funds, i.e., a line of credit, fixed monthly payments—or both. While they are widely available, HECMs are offered solely through Federal Housing Administration-approved lenders.
2: Proprietary reverse mortgage. This type of reverse mortgage is not federally insured. If you have a home that is of high value, you can usually get a bigger loan advance from a proprietary reverse mortgage.
3: Single-purpose reverse mortgage. This type of mortgage is less common than the previous two mentioned. It is typically offered by local and state government agencies and non-profit organizations. However, it is also the least expensive. The only catch is that borrowers can only use the loan to cover one specific thing, like a handicap accessible remodel, for instance.
Whether you opt for a HECM, a proprietary reverse mortgage, or a single-purpose reverse mortgage will depend on your financial situation. It is important to do your research beforehand to understand which one will work best for you, see our best in mortgage for the info on who may be best broker or agency in your area to contact.
When to avoid getting a reverse mortgage
If you are thinking about moving out due to health concerns, or any other reason, you may be better off selling your property instead of getting a reverse mortgage.
A reverse mortgage is also best avoided if your spouse, or any other family member, is under 62 years old and wants to live in the house after you pass away. The lender will sell the property to recover their money and your spouse or family members will be forced to vacate unless they can afford to pay off the loan.
One exception is for spouses who are not old enough to qualify as co-borrower. In this case, they can still be listed as a non-borrowing spouse, meaning they can remain on the property after you pass away without repaying the loan if it is their primary residence. The caveat is they will not be able to collect any more funds from the loan and will lose the income from it since they are not a borrower.
Is a reverse mortgage a good idea for seniors?
A reverse mortgage can be a good idea for seniors who own a home and need more income during their retirement years. It is a popular option to supplement social security and other sources of income, as well as meet medical expenses, make home improvements, and pay for in-home care.
It is also flexible, providing funds as either a lump sum, monthly payment, line of credit—or a combination of each. Make sure to receive a wide variety of opinions on your specific situation before proceeding.
Which situations are best for getting a reverse mortgage?
It is especially useful in that it is the only way to access home equity without selling the home, which is ideal for seniors who:
- Do not want the responsibility of monthly loan repayments.
- Cannot afford to make monthly loan payments.
- Cannot qualify for refinancing or a home equity loan due to poor credit or limited cash flow.
If you don’t want the responsibility of making monthly loan payments, or can’t afford to, and if you fail to qualify for refinancing or a home equity loan, then a reverse mortgage could be a good option for you.
Have experience with a reverse mortgage, good or bad? Let us know in the comment section below.