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reverse mortgages

Understanding Reverse Mortgages

A reverse mortgage loan allows the homeowners to borrow money against their home while they still retain the title to the property. There are no monthly payments required on a reverse mortgage loan.

However, once the homeowner moves out of the home or passes away, the reverse mortgage becomes due and payable. With no monthly payments, interest earned, and fees applied are added to the outstanding balance each month which increases the unpaid balance. Homeowners are also required to pay their property taxes, homeowners’ insurance and keep the home in good condition as their principal residence.

Older Americans including Baby Boomers can use reverse mortgages to access their home’s equity. Reverse mortgage funds can allow borrowers to use their equity to renovate their homes, eliminate personal debt, pay sudden medical expenses or just supplement their retirement income.

A traditional reverse mortgage is also called a Home Equity Conversion Mortgage (HECM) and is issued by the FHA. There are no limitations on income or requirements and the payout funds can be used for any purpose. The borrower is required to attend a counseling session about the HECM covering its risk, benefits and how much money can be borrowed. The final loan amount is based on the borrower’s age and the value of the home. FHA HECMs require purchasing upfront and annual mortgage insurance premiums, but these can be wrapped into the loan.

Private HECM loans are not federally insured. Lenders create their own terms, including allowing loan amounts higher than the FHA maximum. Proprietary HECMs don’t require mortgage insurance (upfront or monthly), which may result in more funds available. Proprietary reverse mortgages typically have higher interest rates than FHA HECMs.

Homeowners must be 62 years or older and meet the following requirements:

  • Own the home free and clear or owe very little on the current mortgage that can be paid off with the proceeds
  • Live in the home as their primary residence
  • Be current on all taxes, insurance, and association dues and all federal debt
  • Prove they can keep up with the home’s maintenance and repairs

The age of the youngest spouse sets payouts. The younger the spouse, the less money you can borrow. There are two terms for reverse mortgages: a fixed rate or a variable rate. Fixed-rate HECMs have one interest rate and one lump sum payout. Variable-rate loans have multiple payout options.

  • Equal monthly payouts
  • A line of credit with access until the funds are gone
  • Combined line of credit and fixed monthly payments for a specified term
  • Combined line of credit and fixed monthly payments for the life of the loan

Advantages

  • Create a steady stream of income during retirement
  • The proceeds aren’t taxed or risk borrower’s Social Security payments
  • Title and rights to the home are retained by the homeowner
  • Monthly payments are not required

Disadvantages

  • The loan balance increases over time rather than decreases as with an amortizing loan
  • The loan balance may exceed the property value eliminating the inheritance
  • The fees may be higher than traditional mortgage loans
  • Any absence of the home for longer than 6 months for non-medical or 12 months for medical reasons makes the loan due and payable

More information is available about reverse mortgages from the Consumer Financial Protection Bureau or Federal Trade Commission or HUD.gov. If you are interested in a reverse mortgage, I suggest you consult a tax professional to see how this will affect your personal taxes. I also suggest exploring whether you will still have an escrow account attached to your mortgage loan or if that is eliminated since there are no monthly payments. If not, you are paying your property taxes and homeowner’s insurance out of pocket when they are due.

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