Reverse mortgage loans were introduced in 1961, and Home Equity Conversion Mortgages (HECM) have been insured by the Federal Housing Administration (FHA) since 1990. Over the years, they’ve evolved into one of the most well-developed loan products in the mortgage industry and can be a great benefit to senior homeowners.
In essence, reverse mortgage loans are a way for homeowners who are 62 and older to improve their financial situation during retirement. They allow seniors to borrow money based on the value of their homes. However, unlike traditional home equity loans, payment on the debt is deferred by the borrower. The loan does not have to be paid back until they move out of their home or until they pass way. In the case of the latter, the debt would be taken out of the profits from the sale of their home or from their estate.
What to Consider Before Taking Out A Reverse Mortgage Loan
How Does a Reverse Mortgage Work?
Many retired seniors have fixed incomes, so reverse mortgages can offer some financial peace of mind during their golden years. But exactly how much? Well, the loan amount is determined by several factors, including the home’s value, how much the borrower owes on the mortgage and other home loans, and the borrowers’ age. In addition:
- The age of the youngest borrower determines the loan amount. The older the borrowers are, the more money they will be able to draw on the loan.
- Borrowers have the option of receiving a lump sum, a monthly payment, a line of credit, or a combination of monthly payments and a line of credit.
- The borrowers’ home must be their primary residence.
- If the borrowers’ home is worth less than what’s still owed on the loan (and the loan is an HECM loan), all the money from the sale of the home goes to the loan and it’s deemed paid.
There are a number or reasons retired homeowners take out reverse mortgage loans, including paying off existing loans or to open a line of credit so that they can cover unexpected expenses.
How Do You Pay Back a Reverse Mortgage?
There’s a misconception that if a homeowner takes out a reverse mortgage loan, the bank owns their home. In reality, it’s just like any other traditional mortgage; the bank has a lien on the home and has first rights to the profits from the sale of the home.
Unlike a traditional mortgage in which a portion of the monthly payment goes toward paying off the loan’s interest, a reverse mortgage loan’s interest builds up over the life of the mortgage. Essentially, as the debt increases, it cuts into the remaining equity of the home.
The borrowers pay back the loan when it comes to maturity, which typically happens when they sell or transfer the title of their home or permanently vacate their home (when it hasn’t been their primary residence for at least 12 consecutive months). Some examples include:
- moving into a nursing home,
- moving in with their children,
- taking an extended vacation, or
- passing away (It’s important to note that if only one spouse [the borrower] is listed on the reverse mortgage and that spouse dies, the other spouse will not be able to receive money from the mortgage after the borrower dies.)
If any of the above takes place, the cash, interest, and other finance charges must be paid off. Typically, the profits from the sale of the home are used to pay off the loan and any remaining equity goes to the homeowners or their heirs. And as mentioned, if the loan balance exceeds the sales price of the home, the homeowners or their heirs don’t have to pay back the balance if they have a federally insured HECM loan. If this is the case, the FHA pays the balance.
That said, there may be times when the homeowners’ heirs want to hold onto the home rather than sell it. If so, the reverse mortgage can be refinanced into a traditional mortgage, or a life insurance policy or even personal savings/funds can be used to pay off the reverse mortgage loan. Another option for heirs who qualify is to take out another reverse mortgage loan to refinance the home.
Although homeowners don’t have to make monthly mortgage payments (though they can do so without penalty), they still have to pay property taxes, homeowners insurance, and other fees associated with their home, such as maintenance and HOA fees. If they don’t pay these off, they could default and have to pay back the reverse mortgage loan immediately.
What to Look for in a Reverse Mortgage Loan
As mentioned, the safest reverse mortgage loans are HECM loans, which are backed by the federal government. But what are some factors you should consider when researching reverse mortgage loans?
Have a Firm Grasp of the Loan Details — Make sure you take ample time to read the fine print on the loan, and if necessary, have a third party, such as an attorney or certified financial planner, review the loan for you. Be wary of lenders who imply that it’s free money or government money. And certainly, don’t sign anything before you are confident you know the terms.
Don’t Be Pressured — Don’t allow a lender to pressure you into a reverse mortgage loan. If the loan seems too good to be true, don’t hesitate to ask questions. Likewise, don’t be pressured by a third party, regardless of whether it’s a family member or not. Take comfort in the fact that you can walk away at any time.
Know Your Obligations — As mentioned, you’re required to pay property taxes, homeowners insurance, and other fees associated with your home during the life of the reverse mortgage, but some lenders may attempt to get you to increase coverage on your property and flood insurance, for example. These expenses can quickly add up, so you need to determine whether you can pay for them.>
Do the Math — Speaking of which, if you have limited income and not enough equity in your home, you need to assess your expenses and upfront and ongoing loan costs carefully. If you have cash-flow issues, there are alternative private benefit programs you can look into. And if you’re already receiving benefits, it’s important to check how the reverse mortgage payment structure could affect those benefits.
Speak to Several Lenders — By taking the time to consider several reverse mortgage lenders, you will better be able to find the terms that best fit your needs. Again, getting counsel from an impartial third party could also ensure that you make the right decision.
Reverse mortgages were set up to help seniors get through the last part of their lives, so although homeowners are eligible once they reach the age of 62, this type of loan isn’t right for everyone. After all, 74 is the average age of those individuals who take out reverse mortgage loans.
Beyond the considerations mentioned above, you should decide whether you are certain that you plan to live in your house for the rest of your life. Perhaps you’d like to retire to Italy? Or maybe your children just built an addition to their home, which would make it much easier for you to be closer to your grandchildren, yet still have some privacy. Regardless, if you sell your home, you’ll likely have little equity left to make a profit.
At Bay National Title Company, we have a team of experts who can answer all of your real estate and closing questions. If you’re looking for a title company that places the customer first and offers a better closing experience, contact us today.