All About Reverse Mortgages

So what exactly is a reverse mortgage?

Basically, it’s a loan. Any homeowner 62 years of age or older who has considerable equity in their home can borrow against that equity and receive money either in the form of a lump sum, a fixed monthly payment, or even as a line of credit.

A reverse mortgage, however, is much different than a normal ‘forward’ mortgage. In a forward mortgage, one makes payments toward the purchase of a house. In a reverse mortgage, you don’t make any payments, in a sense, the payments are made to you.

Here’s the tricky part, a reverse mortgage is set up in a way so that once the owner dies, sells, or permanently moves away, the entire debt of the mortgage is due. The reverse mortgage is structured in such a way however that ensures that the loan amount doesn’t exceed the value of the home so that the borrower or the estate of the borrower won’t be left responsible for making up the difference. 

It can become a major issue if the borrower lives a long time and/or the value of the property drops which could certainly happen for various reasons.

The reality is most seniors have any accumulated wealth tied up in their home. For most Americans, it’s the only true wealth they will accumulate. A reverse mortgage allows them to utilize that wealth when they need it most. 

Unfortunately, these loans can be expensive, they are often complex, and there are many scams that target the elderly tied in with these types of loans. This article will provide you with the basic knowledge you need to help you steer clear of those scams and make a wise and informed choice about a reverse mortgage.

In just the first quarter of 2019, the National Reverse Mortgage Lenders Association estimated that homeowners aged 62 or older held an astounding $7.14 trillion in home equity. These measurements began in 2000 and this marks the highest it has ever been since then. This reveals just how huge a source of wealth this is for seniors. 

The problem is home equity is only useable wealth if you downsize, sell the home or borrow against the equity in the home. For retirees with limited incomes and few assets, a reverse mortgage is a perfect tool to allow them to tap into that equity and use it to live on.

A reverse mortgage allows any homeowner over the age of 62 to stop making mortgage payments and begin to receive payments either monthly or in the form of a line of credit from the equity they have in their home. These mortgages are federally insured and perfectly safe.

The truth of the matter is however that reverse mortgages can be a great choice for some and a terrible choice for others. Before you decide to get a reverse mortgage, you really need to understand exactly what they are and how they work.

Because the homeowner is no longer making payments and is now in fact receiving payments from the home’s equity, they are still required to pay the interest on the remaining balance on the original mortgage. This interest is just rolled into the loan, so as I’m sure you now can see, the homeowner is going deeper into debt across the life of the reverse mortgage as the homes equity decreases.

Just like traditional mortgage loans, the property itself is the collateral for the loan. So when the homeowner moves or dies, the proceeds from the sale of the home go to pay off the remaining balance on the mortgage. If there is anything left after the mortgage is paid off, then the excess goes to the homeowner, or, in the case that they have passed on, it goes to their estate. 

The Internal Revenue Service actually considers the money received by the homeowner during a reverse mortgage to be a loan advance, therefore there is no tax required on the money the homeowner receives. 

There are three different types of reverse mortgage loans available today. The first one we will discuss and the most popular one by far is called the home equity conversion mortgage or HECM. Virtually all reverse mortgages on properties under $765,000 are home equity conversion mortgages. Because this is the most popular we will focus on it for the duration of this article. If your home happens to be worth more than $765,000 then you could look into what is referred to as a jumbo reverse mortgage also at times called a proprietary reverse mortgage.

There are six different ways you can receive your funds when you take out a home equity conversion mortgage or reverse mortgage. These methods of payment include:

-Lump-sum: If you go with a fixed interest rate reverse mortgage this is your only option for payment. You will receive all the money you can get all at once.

-Equal monthly payments or annuity: The main requirement for this payout is that the homeowner must reside in the home for the entirety of the reverse mortgage. This one is also referred to as the tenure plan.

-Term payments: The lender gives the homeowner equal monthly payments for a set amount of time like say 15 years.

-Line of credit: The net amount is set up as a line of credit that the homeowner can use as needed when needed.

-Term payments and line of credit: As the name implies, this is a set up of monthly payments as well as a line of credit that the homeowner can use as needed.

The standard rule is that most banks won’t consider a reverse mortgage unless you have at least 50% equity in your home. Anything less than that, in most cases, will disqualify you.

A reverse mortgage may seem a lot like a home equity loan but as mentioned there are some very large differences between the two. First off, with a home equity loan, you’ll have to have an income and make monthly payments plus you’ll need to have good credit. With a reverse mortgage, there’s none of that. You make no monthly payments and you do not need an income. The property is the collateral and the bank is basically paying you your equity in one form or another.

Both loans do, however, allow the homeowner access to the equity built up in the home. With a reverse mortgage, you will still need to take care of the property tax, insurance, and home maintenance but you can pay for that with the equity payments you will be getting. For many seniors, however, this type of loan allows them to stay in their homes and out of the senior care facility.

Even if you live in a townhouse, condo, or manufactured home (built on or before June 12, 1976, you likely qualify for one of these loans. According to the federal housing commission, however, people living in cooperative homes do not qualify as they technically do not own the property that they are inhabiting. 

Other requirements include an upfront origination fee, a full years insurance premium, loan servicing fees, and interest as well the ongoing insurance for the property. However, to avoid fraud, the federal government limits how much lenders can charge for these items.

Another key feature is, in case of the death of the homeowner, the lender must allow the family several months to decide if they wish to pay off the loan and keep the house or allow the lender to sell the house to pay off the mortgage. In the case of the selling of the house not covering what’s due on the loan, the lender is not allowed to come after the family for the balance due. 

The department of housing and urban development does require every homeowner who wants to get a reverse mortgage to complete a HUD-approved counseling session which normally costs around $125.  The session is normally less than 90 minutes long and goes over all the key points about a reverse mortgage so the elderly homeowner will understand what they are getting into. One of the key points made is the requirements of the homeowner which includes staying current with the homeowner’s insurance and property taxes as well as if they live away from the property for more than a year, they must pay the loan back which usually means they lender sells the home. 

In 2017 HUD increased the insurance premiums from .5% to 2%. This was done to help protect the banks and lenders should the property lose value or the homeowners uses more than the equity can cover, thus leaving the lender holding the bag on the unpaid part of the reverse mortgage.

Keep in mind it’s a great idea to apply for a reverse mortgage with multiple lenders before you pick the one you want. That way you can get the very best deal for yourself depending on what your specific needs are.

Author Bio

Will Foster | First State Bank Mortgage Senior Loan Officer

I became a mortgage lender in 2010, right after the "bubble" popped, and the mortgage industry underwent an incredible transformation. This has given me a unique advantage in the fact that I have never known anything other than the highly-regulated world we now live in.

Throughout my years of experience, my primary goal has been to keep up with the constant changes in the industry so I can help my clients investigate all of their options and maximize savings. In addition, because I specialize in Conventional, FHA, USDA, Jumbo, portfolio, and VA refinances and purchases, I can help a wider variety of individuals, families, and investors identify and secure the right loan to best suit their future interests.

The mortgage process can be a little confusing and even overwhelming these days with all of the regulations.  I guide my clients through the process from start to finish, and I try and make it as painless and hassle-free as possible.