Many seniors find reverse mortgages difficult to understand. In fact, anyone who’s taken out a mortgage may find them confusing. They’re mortgages in the sense that the value of your house is involved, but the “reverse” part doesn’t mean that anyone’s giving you money. Think of a reverse mortgage as a way for seniors 62 and over to tap into the equity of their house – what the home would be worth if their current mortgage were to be paid off. Kind of like a home-equity loan, but a bit more expensive to get into, and a home-equity loan includes a credit check. There’s no credit check involved with a reverse mortgage, because you’re not promising to pay down an old-fashioned mortgage; the money comes from the value of your home itself. You can take the money as a fixed monthly stipend or a lump sum, or use it like a line of credit. You can even pay back what you’ve borrowed from the value of your house.
As in any transaction where hundreds of thousands of dollars may be at stake, there are plenty of people around who are happy to explain things to you. Inevitably, however, those explanations tend to emphasize the attractive aspects of the deal and brush aside the risks.
And there are risks. What’s the worst that could happen? You could lose your house – either as a place to spend the remainder of your days, or as a gift that you planned to leave to your children. What’s the best? Well, that depends on how much time you spend setting up this latest financial adventure, and how carefully you monitor it as time goes by. It does create some cash in hand, and if you can keep your expenses under control, everything could turn out fine.
Just getting a reverse mortgage and letting a potential pot of money sit there until you need it wouldn’t be a good idea, though. To begin with, you pay more fees up-front than you do with a normal mortgage, and you’ll pay interest on both the principal and the interest on any money that you do take out of the house. As reversemortgage.net puts it:
Reverse mortgages are inherently negatively amortizing, which means that interest and principal accrue indefinitely until the loan is retired. Unless the value of one’s home appreciated at 5%+ per year, a reverse mortgage borrower would probably find himself with very little remaining home equity after as little as 10 years. Naturally, the only way to avoid this outcome – other than obtaining a smaller loan – is to make payments on the reverse mortgage much like you would with a conventional mortgage.
The benefit is that there is money in your house, and you can spend it. The bank can’t kick you out. You and your spouse (if you’ve both on the mortgage – generally a good idea) can stay in your house as long as you live, if you keep the place up and pay the taxes and insurance. That’s where the worst-case scenario comes in: if you were to spend so much that you couldn’t pay those common expenses, you could lose your home. It’s in the contract.
And when you die? Your heirs won’t be burdened with your reverse mortgage, even if you’ve taken more out of the house than it’s worth. They can pay off the loan that you were essentially borrowing against and keep the house, or walk away. Who pays the tab then? Not the banks – the FHA, which insured the loan for them. It’s part of a program to help seniors stay in their homes and live on the equity.
An admirable goal, but the devil’s in the details, of which there are many. Seniors must attend a counseling session, although many folks make their minds up first, and dispense with the session with a phone call. Our advice: sit down with a trusted counselor before you make your mind up. Make sure you understand the alternatives, such as a home-equity loan or even a conventional mortgage that could provide you with cash. You can find a list of approved counselors online. And this handy chart is worth reading for the essential details of the process, although it doesn’t emphasize the disadvantages as much as the advantages of a reverse mortgage. It does, however lists the various costs and fees, which are higher than those that apply to a conventional mortgage.