Reverse mortgages can be a double edged sword. For one person, it may make the difference between poverty and stability, for another, it could be a spiral down the drain of fees and high interest. While the latter could be a reality, reverse mortgages can still be a viable option for those who are home rich and income poor. Let's take a look at the WHY, and the ups and downs of making such a decision.
For those of you who may not know anything about reverse mortgages, here is a quick breakdown.
Who's it for, and what does it do?
A reverse mortgage is a type of home loan which gives homeowners 62 or older the ability to use the equity they've built up in their homes and defer payment of the loan until they, sell, move out or die. No payments are made to the bank, instead it's the opposite. The homeowners exact their equity by taking either a lump sum payout, an open line of credit, monthly payments, or even a combination of the three. Monthly payments can be structured for either a set number of years, or received for as long as someone owns their home.
Depending on loan terms, the money begins to accrue interest at either a variable or fixed interest rate. Borrowers also have to pay mortgage insurance, calculated as a percentage of the loan's balance, as well as homeowner's insurance, various home maintenance costs, and property taxes. If they cannot afford any of the latter three, a portion of the loan may be set aside in order to facilitate such payments. Once the home has been vacant for various reasons, such as a move to another home, or death, for 12 months or longer, the loan is due, and the lender recoups the outstanding balance from the sale of the home.
The lender can only recoup money upon the sale of the property, and what they collect cannot exceed the sale price of the home, making whatever balance that had built up above the value of the home, not the borrower's responsibility. Heirs are not held accountable for any portion of the balance.
So what are you telling me here? Is this a good idea, or a bad idea?
It could be both. It really depends on each individual's stage in life, with health, family, finances, and the possibility of retirement to be greatly taken into consideration before making such a decision. As I said before, it could make or break someone's pocketbook.
The Pros:
1. If a homeowner doesn't have any heirs, or chooses not to leave anyone their home, the home's equity could be a viable way to create a stream of a additional income for retirement.
2. If they own a home, but have fallen on financial difficulties, month to month or year to year, a reverse mortgage could bring stability to their situation, giving them a financial leg to stand on. This puts money in their pocket for expenses etc. that they don't have to pay back in their lifetime, unless they move out.
3. It doesn't affect social security or Medicare benefits.
4. Borrowers retain the title to their home.
5. A reverse mortgage can help bridge the gap between delayed Social Security benefits.
6. It could provide a larger inheritance for Heirs. If one were to use their home equity as a form of retirement income, they could avoid having to diversify investments, such a stocks, which could lead to a larger overall inheritance. Not having to touch your stocks, by using the loan capital, could help you avoid a period of negative stock market returns.
The Cons:
1. If the borrower wants to leave their heirs the home, it can cause them many difficulties after the borrower dies, which may result in the loss of the house, when everything is said and done.
2. Costs can be high. According to this article, a borrower can expect to pay $8,908 in fees and closing costs on a $100,000 reverse mortgage.
3. Unless you have a portion of your reverse mortgage put aside for just this, you are still responsible for your home costs. That includes, regular maintenance. If your equity is sizable, the loan may cover all of these costs.
4. You have to repay the loan if you move out. Say, if someone took out a reverse mortgage and then had to move into a long-term care facility, after a year of the house being vacant, the homeowner would have to begin to repay the loan. So, if you aren't planning on staying in the house long, there may be other options when it comes to borrowing cash, such as a home equity loan.
5. The interest tends to be high. Interest rates for reverse mortgages are often higher than a traditional home equity loan. After fees and interest are applied, a borrower may get considerably less than they had hoped. Every time a check is received, the outstanding balance of the loan increases, as well as the interest, and the balance begins to rise, as indicated in the example below.
| Year | Total of payments received | Loan balance (approximate) |
| 1 | $14,000 | $14,325 |
| 2 | $28,000 | $29,384 |
| 5 | $70,000 | $79,340 |
| 10 | $140,000 | $181,163 |
| 15 | $140,000 | $232,497 |
| 20 | $140,000 | $298,377 |
6. Fine print. According to this article, many contracts for reverse mortgages have clauses that say when the surviving of the two spouses die, or vacates, the entire balances is due within 30 days. Unless the heirs have the capital to pay off the loan, they may have to sell the house immediately.
So is it right for me?
It very well, may or may not be. Still, as long as you educate yourself about the ins and outs of reverse mortgages, and apply them to your current situation, it may be a viable option. If it were me, I would acquire the assistance of a lawyer who specializes in reverse mortgage contracts. Just like when diving into any other financial decision, caution should almost always be taken.
For further reading on the pros and cons of reverse mortgages, check these articles from various media sources:
How Does a Reverse Mortgage Work
5 Ways a Reverse Mortgage Can Help Your Retirement
5 Reasons to Avoid Reverse Mortgages
Reverse Mortgage Fees
FAQ about HUD's Reverse Mortgages