or Pros and Cons
of Reverse Mortgages
A Reverse Mortgage is a mortgage that allows a homeowner 62 or older to use the equity in their home to receive cash while continuing to own and live in it. They are different from conventional home equity loans because there are no income or credit qualifications for the interest rate, and no monthly or immediate mortgage repayments*, and the mortgage is paid off when the home is no longer the primary residence of the borrower.
A Financial Assessment is completed using ones income and credit to determine their ability to pay property taxes and insurance and other home expenses into the future. Borrowers are responsible for paying property taxes and insurance.
There are several different programs of Reverse Mortgages including the FHA insured HECM, a branch of the U.S. Department of Housing and Urban Development (HUD) and proprietary programs offered by private lenders.
- A Reverse Mortgage removes financial stress because, unlike other mortgages, no payment is due until the home is no longer the primary residence of the borrower. So borrower(s) are not required to make monthly mortgage payments.* Cash flow increases removing the financial stress.
- One qualifies if they are 62 or older, owns their home, occupies and intends to occupy the home as their primary residence, and has enough equity to pay off any current mortgages or liens, if any, and can demonstrate their ability to pay the property taxes and insurance in the future.
- The Loan is non-recourse, there is no personal liability. The borrowers or their heirs are never required to pay more than the fair market value of the home upon repayment of the reverse mortgage. The mortgage is only on the property and is not the liability of any person. So if one stays in their home a long time and the balance due is more than the value of the home, the borrower or their heirs are not responsible for the difference in payment of the debt. The same is true if the property value decreases.
- When initiating a reverse mortgage, generally the older the borrower(s) the larger percentage of funds they can access.
- The Line of Credit grows on the HECM, making more funds available for future use.
- The proceeds are tax-free and Social Security and Medicare are not affected because it is a loan against the property so the proceeds are not considered income. (Consult a tax advisor and/or legal services for your situation.)
- Income, assets and credit score do not determine one’s reverse mortgage interest rate as they do with a conventional mortgage. The initial interest rate on a conventional mortgage will be higher with lower income, assets and/or credit scores. The initial interest rate on the HECM adjustable rate programs (the most common Reverse Mortgage program) is based on the LIBOR (London Inter-Bank Offertory Rate) or the one-year U. S. Treasury plus a margin. The interest rate has often been lower than what one could qualify for on a conventional mortgage.
- While the interest rate is not impacted by income and credit, they are used for the financial assessment to determine borrower’s ability to pay property taxes and insurance into the future.
- There are no restrictions on how the proceeds can be used.
- Borrower can stay in their home as long as they choose and access the cash now.*
- The closing costs can be perceived as high. As with a regular mortgage, the costs associated with the reverse mortgage include the appraisal, origination fee, title insurance, escrow, and recording fees. The FHA plan includes a 2% initial mortgage insurance premium. Although not charged on the current reverse mortgages and not an initial cost, another cost may be a monthly service fee. Since one is not making monthly payments*, at the time of closing, a lump sum is set aside from the maximum principal loan amount. Each month the service fee is taken from the amount that has been set aside.
- Although the costs associated with the reverse mortgage are included in the loan, they are paid up-front through the loan proceeds. Because they are paid up-front, the shorter period of time one keeps the loan, the more expensive it is as an annual rate. The longer one keeps the loan, the less expensive it is as an annual rate because the costs get averaged over the life of the loan.
- When the home is sold there will be less equity for the borrower or their heirs. The debt is rising and the equity may be decreasing because one is not making monthly mortgage payments. Although if the equity is used through the life of the loan and one lives long enough, there may not be any equity remaining when the loan balance is paid. (While not required, borrowers have the option to make payments to reduce the loan balance.)
- Interest is not a deduction until it is paid generally at the time the loan is being paid off. Although payments can be made and once the FHA Mortgage Insurance Premium is paid, payments can be applied to the interest to possibly receive a deduction. Check with a tax advisor for the current law.
- Payments reduce the Unpaid Principal Loan Balance. The loan balance is made up of the following categories: MIP, Servicing fee, if applicable, interest, and principal amount (sum of amount borrowers obtain for their use, i.e., paying off previous loans and liens, other closing fees, and other personal uses). When borrowers make payments to reduce the loan balance they are first applied to the MIP, then the servicing fees, then the interest followed by the principal balance. Once the borrower has paid enough to cover the accrued MIP, service fees, then additional payment amounts are applied to the interest on the loan. When interest paid in a calendar year exceeds $600 the lender will send you a 1098 int tax form for the amount of interest paid.
The majority of borrowers feel the positives outweigh the negatives because they want to live comfortably, have some “elbow room,” and be independent with financial peace of mind without being a burden on their children. Usually the children are doing fine on their own and want their parents to eliminate their financial worries and enjoy their life more fully.
negatives in your situation.
The Experts Excelling In Service