Seniors often find themselves without assets during their golden years because they’ve invested it all in their home. Rather than selling your home, and using the funds to rent a new place, you may take out a reverse mortgage.
A reverse mortgage helps seniors age in place while providing an affordable way to manage their finances. It’s not right for everyone, but if you own your home free and clear and you and your spouse are over 62-years old, it’s worth understanding.
What is a Reverse Mortgage?
A reverse mortgage, as the name suggests, works in the opposite way that a traditional mortgage does. Instead of borrowing money and making monthly payments to a bank, you borrow against your home’s equity. It allows seniors age 62 and older to remain in their home, while living off the home’s equity. Consider it borrowing from yourself, as you’re tapping into the money you’ve already invested in your home.
Unlike a traditional mortgage, with a reverse mortgage the loan balance including interest is due and payable only when the borrower dies or moves out of the home. Until then, the borrower receives payments based on the payout structure decided during the loan process.
Keep in mind, you must occupy the home full-time – if you are gone from your home for 12 months or more, your loan becomes due and payable.
Requirements for a Reverse Mortgage
Reverse mortgages have different requirements than traditional mortgages because of their different structure. They require:
- The youngest borrower must be at least 62 years old (if you and your spouse apply, they base the loan amount on the youngest borrower)
- You must use the home as your full-time primary residence
- You must own the home without a mortgage or have a balance small enough that you can pay the balance off with the reverse mortgage proceeds
- Prove you have the financial stability to afford home maintenance, taxes, and insurance
Lenders determine how much equity you may tap into based on your age, which is why they use the age of the youngest borrower. Waiting as long as possible to use a reverse mortgage will give you the greatest amount of equity from the home. The older you are when you apply for the loan, the more money lenders will give you because your life expectancy decreases as you age.
What are the Payout Options?
Seniors may choose how to receive their home equity funds. There are six options:
- Lump sum – If you want a fixed interest rate, the lump sum payout is the only option. You receive the full loan amount at once at the closing.
- Term payments – You receive a fixed monthly amount for a specified term. At the end of the term, you no longer receive payments.
- Tenure payments – You and your spouse receive a fixed monthly amount as long as you live in the home full-time. Tenure payments last through the last surviving spouse.
- Line of credit – You have access to your equity, but don’t have to use it. Think of it as a credit card. If you need funds, you can draw on the line of credit. If you don’t, you leave the funds untouched. You only owe interest on the funds you withdrew and used.
- Equal payments plus a line of credit – You and your spouse receive equal monthly payments. This lasts as long as one spouse lives in the home full-time. There is also a small amount of money in a line of credit that you may access as needed.
- Term payments and a line of credit – You and your spouse receive fixed monthly payments for a specified term. The remaining funds sit in a line of credit. You or your spouse may access the funds during the term or after, as long as you live in the home full-time.
Pros & Cons
Like any finance product, reverse mortgages have pros and cons.
- Seniors ages 62 and older can live comfortably on the investment they’ve grown in their home without giving up their home. They can age in place comfortably.
- It’s often less expensive to take out a reverse mortgage than it is to move.
- Reverse mortgage proceeds aren’t taxable. The money you receive from your reverse mortgage isn’t earnings. It’s money you’ve paid into the home and already paid taxes on. It’s a nice supplement to retirement income, especially when seniors come up short.
- The repayment amount will never exceed the property’s current value. This protects you should you sell while you’re alive or your heirs, should they inherit your home and find that you borrowed more than the home’s current value.
- The FHA charges mortgage insurance on the reverse mortgage. Borrowers pay 2 percent upfront (from the loan proceeds) and 0.5 percent of the outstanding loan amount annually, which accumulates along with the loan’s interest.
- You’ll pay other closing fees, including up to a 2 percent origination fee, appraisal fee, and other lender closing costs.
- Your lender may charge a servicing fee or a set-aside fee. If lenders charge to administer the loan and handle the disbursements, they may set aside the total amount based on your life expectancy from the loan amount.
- You must maintain your property taxes and insurance or risk losing your home. Even though you don’t have a traditional mortgage, lenders can foreclose on the loan if you don’t keep up with your obligations.
A reverse mortgage is a decent financial tool for seniors ages 62 and over. It helps seniors age in place as long as they can afford the basic home upkeep costs. The FHA requires lenders to be upfront and honest about the fees and how reverse mortgages work. They work with seniors, educating them, and helping them decide if a reverse mortgage is the best use of their equity.