What is a Reverse Mortgage?
In a reverse mortgage, also known as a conversion mortgage, the home is used as collateral to get cash. This is similar to a standard mortgage, but with a reverse mortgage the homeowner doesn't need an income to qualify and there are no monthly loan payments.
With a reverse mortgage, the loan and the interest on the loan are paid off when the property is sold. Reverse mortgages in the US are administered by the US Department of Housing and Urban Development (HUD), and the program is called the Home Equity Conversion Mortgage (HECM).
How Do You Qualify for a Reverse Mortgage?
To be eligible for a HECM reverse mortgage:
- You must be age 62 or older.
- You must either own your home outright or have a low mortgage balance that can be paid off at closing with proceeds from the reverse mortgage.
- You must live in the home. The home can be a single family home or a 1-4 unit home as long as one unit is occupied by the borrower. HUD-approved condominiums and manufactured homes that meet FHA requirements are also eligible.
- You must receive consumer information from an approved HECM counselor before obtaining the loan. Contact the Housing Counseling Clearinghouse at (800) 569-4287 for the name and telephone number of a HUD-approved counseling agency and a list of FHA-approved lenders in your area.
Note: The US Government Accountability Office has found problems with HUD reverse mortgage counseling, so be careful that you are given complete information.
How Do Reverse Mortgages Work?
Once the property is sold-and this can be during the homeowner's lifetime or after his or her death-the sale price of the property pays back the loan. This rule is in place even if the sale price is less than the combination of the loan and interest (referred to as a short sale).
Because reverse mortgages are backed by HUD, if there is a short sale HUD will pay the difference. Lenders cannot-by law-go after the homeowner's other assets or the estate, so there's no need to worry that your children will have to pay the difference from their inheritance.
HUD offers five options for receiving your payments:
- Tenure - equal monthly payments, as long as at least one borrower lives and continues to occupy the property as a principal residence.
- Term - equal monthly payments for a fixed period of months selected.
- Line of Credit- unscheduled payments or installments, at times and in amounts of your choosing, until the line of credit is exhausted.
- Modified Tenure - a combination of line of credit plus monthly payments, for as long as you remain in the home.
- Modified Term - a combination of line of credit plus monthly payments for a fixed period of months selected by the borrower.
What are the Advantages of a Reverse Mortgage?
- Homeowners can pull needed cash from the equity of the home, without incurring monthly expenses.
- Lenders cannot force homeowners to sell the property to pay back the loan.
- Reverse mortgages guarantee that the homeowner can stay on the property for as long as he or she lives, even if the outstanding loan and interest grow to exceed the value property's value.
What are the Disadvantages of a Reverse Mortgage?
- A reverse mortgage can cost thousands more than a conventional mortgage. Reverse mortgage fees can be high, although the fees are often rolled into the loan and not paid upfront. Because HUD is the program administrator, all fees are fixed.
- Unfortunately, you may be approached by financial advisors who want to charge you for advice about reverse mortgages or sell you a reverse mortgage. All the information you need about reverse mortgages can be found online from HUD or AARP. Do not apply for a reverse mortgage from any company that is not approved by HUD.
- It's important to calculate the cost of a reverse mortgage against what you would gain, because once you enter a reverse mortgage agreement, the mortgage company essentially owns your home.
- Get sound advice. Discuss your reverse mortgage plans with legal and financial advisors, and family members, before making a decision. Because home ownership is often a person's most valuable asset, getting a reverse mortgage is essentially the same as spending the money you'd expect to leave to your heirs.
- Be sure that the older homeowner is thinking clearly when making this decision (no dementia or symptoms of Alzheimer's) because having a sudden influx of cash can be a heady experience and it would be a shame to waste it or become the victim of a scam.
- Reverse mortgages are often seen as a last resort if the homeowner needs cash and there are no other options.
What are the Rules of Reverse Mortgages?
- To reduce their risk, lenders generally limit reverse mortgage loans to amounts that are below their estimate of the property's full value.
- Age is an advantage when applying for a reverse mortgage. Borrowers must be at least age 62, and the older the homeowner is, the more money he or she would qualify for. For example, a 78-year-old borrower would qualify for a larger loan than a 62-year-old.
What are the Limits on Reverse Mortgages?
The HUD limit on reverse mortgages is $625,000.
If you are considering a reverse mortgage, it's important to get as much information as you can, and to consider all of your options.
For many older homeowners, selling your home and moving to a less expensive home is the best way to protect your assets for yourself and your family.
If you are considering a reverse mortgage, there's a wealth of free information to help you decide: