What is a reverse mortgage?
A reverse mortgage is a unique financial product designed primarily for older homeowners who want to access the equity in their home without selling it. Unlike a traditional mortgage where the borrower makes monthly payments to the lender, a reverse mortgage allows the homeowner to receive payments from the lender. This can be particularly beneficial for retirees who may have limited income but significant home equity.Key Aspects
- Age requirement - Only available to homeowners aged 62 or older.
- Home ownership - The homeowner retains the title to the property, meaning they still own their home.
- No monthly payments - Instead of making payments to the lender, the homeowner receives payments, though they are still responsible for property taxes, homeowner’s insurance, and home maintenance.
- Repayment - The loan typically doesn’t need to be repaid until the homeowner sells the home, moves out permanently, or passes away. At that point, the proceeds from the sale of the home usually go towards repaying the loan.
How Does a Reverse Mortgage Work?
The way a reverse mortgage operates is fundamentally different from a traditional mortgage. Here's a breakdownEligibility
- Age requirement - At least one homeowner must be 62 or older.
- Primary residence - The home must be the primary residence, meaning the homeowner lives there the majority of the year.
- Financial assessment - Lenders will assess the homeowner's ability to pay ongoing costs like taxes and insurance to ensure they can maintain the property.
Loan amount
- Home Value - The higher the appraised value of the home, the more money may be available.
- Interest Rates - Lower interest rates can increase the loan amount available.
- Age of the Youngest Borrower - The older the borrower, the more money they may be able to borrow, as the loan is expected to last a shorter time.
Payment options
- Lump sum - Ideal for those who need a large amount of cash upfront, perhaps to pay off an existing mortgage.
- Monthly payments - Provides regular income, either for a set term or for as long as the borrower lives in the home.
- Line of credit - Offers flexibility, allowing the homeowner to draw funds as needed. An added benefit is that the unused portion of the line of credit can grow over time.
- combination - Allows for a mix of lump sum, monthly payments, and line of credit.
Types of Reverse Mortgages
Understanding the different types of reverse mortgages helps in choosing the best option based on individual needsHome Equity Conversion Mortgage (HECM)
- Federally insured - Backed by the FHA, providing added security.
- Flexible options - Offers multiple payment options (lump sum, monthly payments, line of credit).
- Loan limits - Subject to FHA lending limits, which may be lower than the home's value, particularly in high-cost areas.
- Counseling requirement - Borrowers must attend a HUD-approved counseling session.
Home Equity Conversion Mortgage (HECM)
- Private Loans - Offered by private lenders, not insured by the FHA.
- Higher loan amounts - Suitable for homes with values exceeding FHA limits.
- No mortgage insurance - Since it's not federally insured, mortgage insurance premiums are not required, but interest rates may be higher.
Single-Purpose Reverse Mortgage
- Restricted use - The loan must be used for a specific purpose, like home repairs, property taxes, or other predetermined expenses.
- Lower costs - These loans typically have lower fees and costs, but the funds are limited in scope.
- Local availability - Offered by state and local government agencies or non-profits, making them less widely available.
Costs and Fees
A reverse mortgage involves several costs and fees that can significantly impact the total loan amount over time.Origination Fee
- Lender charge - This fee covers the lender's costs in processing the loan. The amount can vary but is capped by the FHA for HECMs.
- Typical amount - Can range from $2,500 to $6,000 depending on the loan size and lender.
Servicing fees
- Loan management - Lenders may charge a monthly fee to manage the loan, which covers tasks like sending account statements and managing disbursements.
- Amount - Typically ranges from $25 to $35 per month.
Interest rates
- Fixed vs. variable - Borrowers can choose between fixed and variable interest rates. Fixed rates provide certainty but may limit the payout options. Variable rates may offer more flexibility but come with the risk of rising costs.
- Impact on loan balance - Interest compounds over time, increasing the total loan amount.
Third party fees
- appraisal - The home must be appraised to determine its value.
- Title insurance - Protects against issues with the home’s title.
- Inspection fees - If repairs are needed to qualify for the loan, inspection fees may apply.
Pros and Cons of Reverse Mortgages
Pros
- No monthly mortgage payments - Eliminates the monthly mortgage payment, freeing up income for other expenses.
- Flexible payout options - Borrowers can choose how they receive the funds, tailoring the loan to meet their needs
- Non-recourse loan - Even if the home’s value decreases, the borrower (or their heirs) won’t owe more than the home’s value at the time of repayment.
Cons
- Accruing interest - Interest accumulates on the loan balance over time, which can significantly reduce home equity.
- Heirs may inherit less - Because the loan must be repaid, the heirs may receive less or no inheritance from the home’s value.
- Costs and fees - Reverse mortgages can be costly, with upfront fees, mortgage insurance premiums, and ongoing interest charges.
Who Should Consider a Reverse Mortgage?
A reverse mortgage isn’t suitable for everyone, but it can be an excellent option for some homeowners.Ideal Candidates
- Need for additional income - Homeowners who need extra income for living expenses, medical bills, or home improvements.
- Desire to stay in the home - Those who wish to remain in their home without the burden of mortgage payments.
- Significant home equity - Homeowners with considerable equity who don’t want to sell their home.
Not Ideal For
- Short-term residents - If the homeowner plans to move within a few years, the costs of the reverse mortgage may outweigh the benefits.
- Legacy concerns - Those who want to leave the home to their heirs free and clear of debt.
Key Considerations Before Taking a Reverse Mortgage
Before committing to a reverse mortgage, it's crucial to weigh various factors.Impact on Inheritance
- Reduced equity - The loan balance increases over time, which can diminish the amount of equity left for heirs.
- Options for heirs - Heirs will need to decide whether to sell the home, refinance the loan, or use other funds to pay off the loan balance.
Long-Term Stay
- Staying in the home - Reverse mortgages are most beneficial for those planning to stay in their home for a long time. Moving out of the home can trigger repayment, which may not be feasible for some borrowers.
Alternatives
- Downsizing - Selling the home and purchasing a smaller, less expensive property may provide the needed funds without the costs associated with a reverse mortgage.
- Home equity loan - For those who can make monthly payments, a traditional home equity loan may be a less expensive option.
- Government assistance programs - Low-income homeowners may qualify for programs that can help with expenses like home repairs or property taxes.
How to Apply for a Reverse Mortgage
The application process for a reverse mortgage involves several steps.Counseling Requirement
- HUD-approved counseling - Before applying, borrowers must attend a counseling session with a HUD-approved counselor. This ensures they understand the loan's terms, costs, and obligations.
- Objective advice - The counselor will help explore other options and ensure the borrower fully understands the financial implications.
Choosing a Lender
- Research - It’s important to compare multiple lenders to find the best terms and lowest fees. Look for lenders who are transparent about costs and have a good reputation.
- Lender selection - Choose a lender that offers the type of reverse mortgage that suits your needs (HECM, proprietary, or single-purpose).
Appraisal and Approval
- Home appraisal - An independent appraisal will be conducted to determine the home’s market value.
- Loan approval - Once the appraisal is complete and the lender is satisfied with the borrower’s financial situation, the loan can be approved.
Repaying a Reverse Mortgage
Understanding the repayment terms is crucial to avoid surprises later.When Repayment is Due
- Triggering events - Repayment is typically due when the homeowner sells the home, moves out permanently (e.g., to a nursing home), or passes away.
- Due date - The loan is usually due in full within six months of the borrower’s passing or moving out. However, extensions may be granted under certain circumstances
Options for Repayment
- Selling the home - The most common method of repayment is selling the home. The proceeds are used to pay off the loan balance, with any remaining equity going to the borrower or their heirs.
- Refinancing - Heirs may choose to refinance the loan if they wish to keep the home.
- Using other funds - The loan can also be repaid using savings, life insurance, or other financial resources.
- Short sale - If the loan balance exceeds the home’s value, the heirs can opt for a short sale. The lender accepts the sale price as full repayment, even if it’s less than the loan balance.
Common Myths and Misconceptions
There are several myths and misconceptions about reverse mortgages that can cause confusion."The Lender Owns the Home"
- Fact - The borrower retains full ownership of the home. The lender only has a lien on the property, which is a legal claim to ensure the loan is repaid.
"You Can Be Forced Out"
- Fact - As long as the borrower continues to live in the home, pays property taxes, maintains homeowner’s insurance, and keeps the home in good repair, they cannot be forced to leave.
"It's Only for the Financially Desperate"
- Fact - While reverse mortgages can provide crucial financial relief, they’re also used by many retirees as a strategic tool to improve their financial situation, fund home improvements, or delay drawing on other retirement assets.
Competitive Rates
We find the most competitive rates available across our vast network of lending partners to get you the best loan possible.
Credit Consultation
Advice on how to increase your credit score to get a better rate is a no cost service we offer to all our clients.
Our Closing Promise
We close loans that others can't. That's been our pledge for the last 27 years and continues to be true today.
Your mortgage consultant for life!
- Primary Residence
- Secondary Residence
- Investment Property
- Commercial Buildings
An experienced mortgage professional to guide you each step of the way
We've seen it all in our decades of originating loans for homebuyers of all types and know how to find the perfect mortgage for your needs.
Call us for a free, no obligation consultation!
- (303) 745-6200
- [email protected]
- COLMB 100008953
- NMLS 177966
Our team's decades of experience has become a symbol of excellence in the mortgage industry. We are here to help you find your perfect mortgage.
© 2024 The Loan Pros Inc.