by Lauren Rosales-Shepard, Content Writer
A reverse mortgage is a type of home loan that allows homeowners over the age of 62 to convert a portion of their home’s equity into cash without selling the property outright. It’s called a “reverse” mortgage because, unlike traditional mortgages where borrowers make monthly payments to the lender, with a reverse mortgage, the lender makes payments to the borrower.
Due to the age requirement, reverse mortgages are intended for older homeowners who have substantial equity in their homes (i.e. have paid off all or most of their mortgage). Often, homeowners approaching or settling into retirement may require additional income to cover living expenses, healthcare costs, or to otherwise supplement their retirement income or assist in adjustments needed to remain in their home and age in place.
Pros of a Reverse MortgageThere are several reasons why a reverse mortgage might be a good fit for you.
Increases Your Financial Flexibility and Cash FlowIt’s no secret that America is largely facing a retirement crisis. As life expectancy increases, many seniors face a growing concern that they will outlive their savings. Moreover, it is very difficult to keep pace with a rising cost of living on a fixed income. And if you want to age in place, there are a number of expenses–from renovations to healthcare and outsourcing home maintenance–that you will eventually need to incur.
One benefit of the reverse mortgage is that the payment or payments from the lender will increase an otherwise fixed income. Even if you’re confident in your savings, this addition could act as a significant financial cushion for the unpredictability of late life.
Eliminates Your Monthly Mortgage PaymentsIf you haven’t yet paid off your entire mortgage, those monthly payments could be a huge drain on your income–even if you haven’t yet retired. One major “pro” of a reverse mortgage is that you could use the incoming payments to pay off your existing home loan and its interest.
Gives You Several Payment OptionsThere is more than one way to receive your reverse mortgage payments. It can come as a lump sum, a line of credit, or monthly payments. This flexibility allows you to choose the option that best suits your financial situation. A lump sum could help you pay off debt, for example, whereas a monthly payment might be a better fit for supplementing a fixed income.
Protects You Against Housing Market FluctuationsAnother benefit of a reverse mortgage is that it is a non-recourse loan, which means that the borrower (or their heirs) will not be personally liable for any loan amount that exceeds the value of the home at the time the loan becomes due. Therefore, should the housing market experience a downturn and the home’s value decreases to the point where it is below the loan balance, the borrower or their heirs can sell the home to repay the loan, even if the balance exceeds the property value. In other words, they wouldn’t need to use their income, or any other assets, to cover the difference.
If you choose a line of credit option, where you can simply access the funds when needed, that credit line has the potential to grow over time even if the housing market fluctuates. In the event that you want the line of credit merely as a safety net, you will be able to access those funds in a time of need regardless of the property’s current value.
Don’t Pay Taxes on the IncomeIn a reverse mortgage, you don’t pay taxes on the loan proceeds you receive–it’s not considered income. This is because it is basically a loan against the equity of the home, and loans aren’t usually treated as taxable income.
Depending on your preferences and your unique financial situation, another benefit of a reverse mortgage might be that, since the borrower is not making monthly payments on the loan during its term, there are no interest deductions like there would be with a traditional mortgage. Instead, the interest on the reverse mortgage accumulates over time and is ultimately added to the loan balance; therefore, that interest is not tax-deductible until the loan is repaid.
Allows You to Continue to Live in Your HomeAs long as your home remains your primary residence, a reverse mortgage allows–and, for some, enables–you to stay in your home. Historically, one would need to sell their home and move in order to convert their equity into cash. With a reverse mortgage, you are able to access the equity you’ve built, all while staying in the community you know and the home you love.
Cons of a Reverse MortgageOn the other hand, a reverse mortgage is certainly not a one-size-fits-all solution.
There’s a Cost to Getting a Reverse MortgageThere are some additional costs associated with a reverse mortgage, though some are dependent on the particular lender and terms of the loan. An origination fee covers the lender’s administrative costs for processing the loan; this is usually a percentage of the loan amount. Government-insured reverse mortgage loans require borrowers to pay an upfront Mortgage Insurance Premium, which is a percentage of the home’s appraised value or the FHA lending limit, whichever is lower. Like traditional mortgages, a reverse mortgage also involves closing costs that cover the fees for title searches, title insurance, attorney services, recording fees, etc. Additionally, some lenders charge a monthly servicing fee.
Reduces Your Home EquityYour home equity is the difference between your home’s market value and the amount which you have paid off from your original loan/mortgage. When you take out a reverse mortgage and access the funds, that loan balance increases over time, and includes both the amount itself and the interest that accrues on the entire outstanding balance. So, imagine that equity shrinking each time you dip into the reverse mortgage funds, because the loan grows.
Reverse Mortgages are ComplicatedThere are specific eligibility criteria for reverse mortgages, including the age requirement, homeownership status, and property type. Plus, the loan structure is also different from traditional mortgages, which can lead to confusion. As a result of widespread confusion, in fact, borrowers are required to undergo reverse mortgage counseling to ensure that they completely comprehend the terms and implications of the loan.
Because there are different types of reverse mortgages, such as the government-insured Home Equity Conversion Mortgage (HECM), it’s especially important to carefully compare options. The costs and fees can also vary between lenders.
Lastly, proceeds from a reverse mortgage can affect eligibility for some government benefits, such as Medicaid and Supplemental Security Income. It is integral that a homeowner understands these implications if they rely on those benefits.
Your Home Could be ForeclosedAlthough you are no longer making monthly mortgage payments, one disadvantage of a reverse mortgage is that your home could still be foreclosed. You still need to keep up with property maintenance, property taxes, insurance, and any HOA fees; if you fall behind in any of these, you could lose your home.
Impacts Your Heirs’ InheritanceBecause you reduce your home equity as you borrow from a reverse mortgage, it will have an inevitable impact on the equity available to your heirs after the loan is ultimately repaid.
Should I Get a Reverse Mortgage?
A reverse mortgage might be a good idea for you if:
- You meet the qualification requirements (such as being 62 or older)
- You plan to stay in your home for a long time
- You don’t have any cohabitants
- You can cover the costs of your home
- Your house is just an asset to you
- Your home is increasing in value
- You have no difficulty understanding the reverse mortgage terms
However, a reverse mortgage might not be a good fit for you if:
- You aren’t eligible, obviously
- You plan to move soon
- Someone lives with you or depends on your home
- You are experiencing financial difficulties (like struggling to pay for property maintenance or taxes)
- Your home has sentimental value for you or your family
- You have health challenges or unpredictable health
- You don’t understand the rules of reverse mortgages
Frequently Asked Questions About Reverse Mortgages
What are the costs of a reverse mortgage?The costs of a reverse mortgage can include: the origination fee, the appraisal fee, the servicing fee, the counseling fee, and closing costs. Additionally, for HECM loans, borrowers are required to pay an upfront Mortgage Insurance Premium, which is a percentage of the home's appraised value or the FHA lending limit, whichever is lower. There is also an ongoing MIP that is assessed annually on the outstanding loan balance.
Note: some of these costs can be financed as part of the reverse mortgage, meaning they are added to the loan balance and repaid when the loan becomes due. However, financing the costs will reduce the available funds to the borrower.
Who owns the house in a reverse mortgage?In a reverse mortgage, the homeowner retains ownership of the house. The title remains in their name throughout the loan term. However, the loan must be repaid when certain conditions are met or when the loan term ends.
Can you or your heirs get out of a reverse mortgage?To “get out” of a reverse mortgage, either you or your estate must pay off the loan. This can be done at any time, whether you sell the home, use other assets to cover the cost, or refinance the reverse mortgage into a different type of loan, like a conventional mortgage. Repayment options may vary depending on the type of reverse mortgage and the particular agreement into which you have entered.
When do I have to repay a reverse mortgage?The terms of your agreement are dependent on the particular lender, however, you will need to repay the reverse mortgage very soon after you move out of the home, sell the home, or fail to meet the obligations like paying property taxes. In the event of your death, the reverse mortgage will also become due and payable; your estate will need to pay it back either by selling the home or using other assets.
A Unique Alternative to a Reverse MortgageA reverse mortgage can be a solid option for homeowners in particular circumstances. However, if those circumstances don’t apply to you, or you’re curious about other possibilities, consider the Unison equity sharing agreement.
Unison pioneered the equity sharing agreement as a method to empower homeowners to access the equity in their homes without a) selling the home, or b) undertaking burdensome monthly payments and accruing interest. With a Unison equity sharing agreement, you receive up to 15% of your home’s current value in cash, in exchange for a percentage of your home’s change in value in either 30 years or at the time of sale. There are no monthly payments, and no interest, so you don’t have to fret about additional debt. Curious? Visit the Unison website to learn more.