Is a Reverse Mortgage a Good Idea?
The ads seem legit, but is a reverse mortgage a good idea for you? Find out here.
Contributing Writer at Tally
December 16, 2021
You may have seen the commercials about a company willing to pay you monthly for your home. The best part? You get to stay in your home while getting paid. That’s the basic idea of a reverse mortgage.
It may seem enticing to take advantage of your home's value by turning that into monthly , but is a reverse mortgage a good idea for you?
Below, we'll cover:
All the basics of a reverse mortgage
When a reverse mortgage is a good idea
When you should skip the reverse mortgage
How does a reverse mortgage work?
A reverse mortgage is a loan for homeowners who are 62 years old or older that leverages the home's equity. Instead of paying the lender back every month, you repay the lender when you no longer live in the home.
So, if you:
Sell your home
Move out for any other reason
the loan balance and all accrued interest and fees are due immediately.
Unlike a regular mortgage, there are no monthly payments on a reverse mortgage. But the mortgage still incurs interest and fees, so the loan balance increases with time. The owner must still pay property taxes and maintain homeowner's insurance.
Typically, the loan repayment comes from the proceeds of the home’s sale.
Why would you need a reverse mortgage?
Reverse mortgages have many uses, especially those living on fixed retirement income and can't shoulder a significant financial emergency. Here are some common reasons people take out reverse mortgages.
Even in retirement, emergencies happen. Your car breaks down, the roof springs a leak, the air conditioning breaks and more. When these expenses pop up in retirement, your fixed income may not be able to handle it.
A reverse mortgage can give you the cushion you need to handle an emergency.
Home improvements are also popular uses for reverse mortgages. Sure, you could take out a home equity loan or a home equity line of credit (HELOC), but you must make monthly mortgage payments on these. You can use the loan proceeds to upgrade your home and make no monthly payment with a reverse mortgage.
Cover income shortages
We do our best to estimate our costs when retirement planning, but sometimes we can come up short. Whether you underestimated your healthcare costs, your Social Security benefits were reduced or something else, a reverse mortgage can help fill that gap.
When is a reverse mortgage a good idea?
There are plenty of reasons to avoid reverse mortgages, but there are also some good aspects.
When you plan on staying in your home
With significant upfront fees, it doesn't make sense to take out a reverse mortgage and sell your home a few years later. If you plan on staying in your home as your primary residence for a significant amount of time, a reverse mortgage loan may be a solid option.
When you have a well-balanced budget
If you have a well-balanced budget that easily pays your property taxes, homeowner's insurance and other living expenses, a reverse mortgage may work for you. With these basics covered, the lender can only call your loan due if you move out.
When everyone living in your home is at least 62 years old
One stipulation to reverse mortgages is that anyone on the loan paperwork must be at least 62 years old. If everyone in your home is 62 years old, there's no worry the lender will call the loan due if you move out or die. The lender must wait for everyone on the loan paperwork to die or move out.
When there are no plans to pass your home to others
If you have no heirs to pass your home to or simply don't plan to pass your home to someone, this could be a good time for a reverse mortgage. You can cash in on your home's equity and use the cash as you see fit.
Once you die, your beneficiaries have the option to buy back the home's title if they have cash or can get a traditional mortgage.
If no one buys back the title, the reverse mortgage lender will sell the home to recoup its expenses. If there are proceeds from the sale, your heirs will get this. The Federal Housing Administration (FHA) insurance will cover the difference if there’s a deficit.
When is a reverse mortgage a bad idea?
When you have limited home equity
With a standard mortgage, your home equity typically grows with time. However, a reverse mortgage is backward. The monthly payout, in addition to fees and taxes, will start to feed into your home’s equity.
This limits any opportunity for future home equity loans. It may also limit your ability to sell the home or diminish the value of your estate when you die.
This is especially true if you have a relatively new home with a fresh mortgage.
When your heirs are depending on inheriting your home
When you die, you might want to leave your property to loved ones. With a reverse mortgage, unless your estate has enough cash to repay the loan in full, your beneficiaries may have to sell the home to satisfy the balance.
If there's enough cash left over after the sale, your heirs will receive this. However, if the balance is too high, there may be nothing left. Also, there's the loss of an asset that may have heavy sentimental value to your loved ones. Being forced to sell the home could cause emotional stress.
When you share your home with others
If you live with a spouse, family members or friends, and they aren't on the reverse mortgage paperwork, they could be forced to leave the home after you die or move out. If you pass or leave the house for more than a year, the lender will look to recover the reverse mortgage costs.
If the recovery requires selling the home, the folks living there must vacate.
When you have health issues
Though it's common to use a reverse mortgage to offset healthcare expenses, there's a big issue with this. If your health issues end up being more significant, resulting in you going to a long-term care facility for more than a year, your lender may request a full loan payoff.
When your budget is already tight
Your reverse mortgage payments may not cover all your expenses, potentially leaving your property taxes or homeowner's insurance unpaid. If this happens, the reverse mortgage lender can call your loan due, leading to you losing your home.
When you can't afford big upfront fees
Like many loans, there are fees associated with a reverse mortgage. Home equity conversion mortgages (HECMs), for example, generally include HUD-approved counseling fees, origination fees, closing costs and mortgage insurance premiums. Plus, there are often servicing fees to pay the lenders, such as sending statements and fees for disbursements.
Make sure to always cover all the fees associated with the reverse mortgage with a loan specialist before accepting it.
What are the types of reverse mortgages?
There are three types of reverse mortgages available, and each has its benefits.
Single-purpose reverse mortgage
Local government agencies and nonprofits offer these, and they're often the most economical choices for reverse mortgages. The lender specifies what the borrower can use the loan for, such as home improvements or paying real estate taxes, making them somewhat restrictive.
These are reserved for low-income individuals only.
Proprietary reverse mortgage
These are the ones you generally see the commercials for on television. They're companies that are willing to work with higher-value homes and offer larger loans. These generally have higher fees than single-purpose reverse mortgages, making them a less economical option.
Home Equity Conversion Mortgages (HECMs)
These loans are backed by the U. S. Department of Housing and Urban Development (HUD) and are federally insured against default. HECMs also tend to have higher fees, like proprietary reverse mortgages.
Borrowers are free to use these loans in any way they see fit. The HECMs have a few payment options:
Single lump sum
Fixed monthly payments for a defined term
Fixed monthly payments for as long as you live in the home
Line of credit
Combination of a line of credit and a fixed monthly payment
Is a reverse mortgage a good idea?
Choosing a reverse mortgage will depend on a range of variables, including your living arrangements, financial situation, age, health and much more. However, there are specific cases where a reverse mortgage is a good idea and where it's a bad idea, making it relatively simple to decide if it's right for you.
Before making the final decision, you may want to consult a financial planner or licensed mortgage banker to dig deeper into your financial situation and see if this is a good option.
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