A reverse mortgage, or home equity conversion mortgage (HECM), is a type of loan that allows a senior citizen to keep their home, while still taking equity out of it without having to pay it back. A unique and increasingly popular financial vehicle, it's perfect for seniors who are "house rich" but have a low fixed income.
When you take out a reverse mortgage, you draw against the equity in your home, and don't have to pay back the proceeds until you die, sell your house, or move out permanently. You're able to enjoy using the extra money from your home's equity, while still being able to live in your house for the rest of your life. And you don't have to worry about your heirs owing money either, the lender assumes the risk of the resale value declining. After death, the proceeds are paid back from the sale of the home; if for some reason the home sells for less than the total proceeds received, the bank takes the loss and has no recourse against your estate or your heirs. On the other hand, if your home sells for greater than the amount owed to the lender, the balance goes to your heirs.
There are different types of reverse mortgages. You may take out a lump sum, regular payments for a set length of time, or regular payments for the rest of your life. If you take regular payments for the rest of your life, the lender will typically offer you a lower monthly payment than if you were to set a defined period, because they are taking a calculated risk and guessing how long you will live. And yes, it's possible to "beat the bank" at their own game by living far beyond your life expectancy--and the bank has to keep on paying you. The amount you will be offered will be calculated based on how much equity you have in your home, your current age, and geographic location. For most types of reverse mortgages, there are no income qualifications you have to meet. While some locally administered reverse mortgage programs are designed for low-income seniors, several others are open to any senior. Certain types of reverse equity mortgages have an upper limit, so if you own a home worth a million dollars, you may not be able to borrow its full value.
The HECM is guaranteed by the federal government, and you may use the loan proceeds for whatever you wish.
There are fees involved, although the fees may be added into the loan itself, so you won't have to pay anything up front. Compare the fee structure, since it will vary depending on the lender. Even though it is guaranteed by the federal government, the loan is provided by a private lender, who may attach fees as they see fit. There may be an origination fee, closing costs, mortgage insurance, and servicing fees, in addition to interest.
You must be at least 62 years old to qualify for a reverse mortgage, and the property you are taking the reverse loan against must be your primary residence.
Key Questions to Ask about Reverse Mortgages
If you are a homeowner who is 62 years of age or older, you might find that a reverse mortgage would provide extra cash to you each month and be a better option than a home equity loan. Many older adults are using reverse mortgages to handle unexpected or increased expenses. The reverse mortgage can provide income, a credit line, or a lump sum payment.
But before jumping into reverse mortgage, you need to proceed with caution or you could end up in the position of not being able to repay the loan. Reverse mortgages after all are a means to spend out the equity of your home but in the end, these plans are loans and must be re-paid.
Homeowners considering a reverse mortgage should seek the advice of a good financial planner and look at all options before signing the dotted line on any agreement which might put them into financial jeopardy. Some good questions to ask include:
- Why am I in need of this money and how much can I borrow?
- Is there any other option than a reverse mortgage?
- Will the reverse mortgage change my financial status thereby making me ineligible for financial aid or benefit programs?
- Will a reverse mortgage help me meet a short-term gap or do I really need a better long-term financial plan?
- What are the fees, interest rates, out-of-pocket expenses or penalties surrounding the loan or payment terms?
- Would it be better to sell or move rather than to use a reverse mortgage?
- What happens if I become ill and require admission to an assisted living or skilled nursing care facility?
The high cost of prescription drugs combined with drops in pension plans and stocks are forcing many older adults to come up with new avenues of financing their expenses. A reverse mortgage might be a good solution to helping you to stem the tide but a complete analysis is needed to ensure you'll sail safely through your retirement years.
Information is for educational and informational purposes only and is not be interpreted as financial or legal advice. This does not represent a recommendation to buy, sell, or hold any security. Please consult your financial advisor.