As a homeowner thinking about retirement, you've probably heard about reverse mortgages. With a reverse mortgage, instead of borrowers making monthly mortgage payments to lenders, the lenders "pay" the homeowners.
As appealing as it may seem, it's not that simple. If you're considering taking out a reverse mortgage, first you have to understand how it works and weigh its pros and cons.
A reverse mortgage is a special type of mortgage that is available only to homeowners aged 62 and above. In a traditional loan, homeowners make monthly mortgage payments to the lenders. But with a reverse mortgage, the lenders make monthly payments to the homeowners against their home equity.
There are different types of reverse mortgages, but the most common one is the Home Equity Conversion Mortgage (HECM) which is backed by the Federal Housing Administration (FHA). Keep in mind that non-HECM reverse mortgages might not have the same consumer protection provided by the FHA.
To get a reverse mortgage you also must meet the following requirements:
With a traditional mortgage, homeowners make a series of monthly payments which usually consist of the principal, interest rate, taxes, and insurance. This will last for more or less 30 years until they pay off the loan balance. Once the balance is paid off, the homeowners will have full ownership of the property.
On the other hand, a reverse mortgage works, well, in reverse. With a reverse mortgage, the homeowner "sells" a part of their equity to a lender. In return, the lender makes payments to the homeowner either in a lump sum, line of credit, or monthly payments. The amount that the homeowners receive will depend on the current interest rates, the value of their home, and the age of the youngest borrower.
For example, a homeowner takes out a reverse mortgage and receives a monthly payout of $1,600 with an interest rate of 4%. As the month passes, $1,600 will be added to your reverse mortgage balance plus the accrued interest. So as your loan balance increases, your home equity decreases.
A reverse mortgage loan is due if the last surviving borrower:
Most reverse mortgage borrowers opt for this loan type to help them meet financial obligations. Here are some of the reverse mortgage pros that might benefit you.
A reverse mortgage is ideal for homeowners who are house-rich but cash-poor. They might not have a lot of cash, but they have wealth built up in their house.
With a reverse mortgage, homeowners can liquefy a portion of their home equity to cover expenses. This is especially helpful if you have health issues or other financial problems due to reaching retirement age.
With a reverse mortgage, you won't have to sell your home in order to have cash. You can age in place and still cash out some of the equity on your property. And even though you still have to pay some closing costs on a reverse mortgage, it might be cheaper compared to moving to a new home or rental.
Although receiving monthly payments from a reverse mortgage might feel like an income, it won't require the same tax liability. This is because according to the IRS, your reverse mortgage proceeds are considered a loan advance and not an income. So unlike other retirement income such as IRA or a 401(k), your loan proceeds are not taxed.
As your reverse mortgage debt increases over time, it's possible that it can go beyond the current fair market value of your home. Thankfully, you or your heirs won't have to worry about repaying the excess loan balance.
This is because a reverse mortgage is an example of a non-recourse loan. This means that you or your heirs are not liable for the debt beyond the pledged collateral of the loan. If you have an HECM reverse mortgage, the FHA will pay the lender the excess balance.
A reverse mortgage typically ends when the borrower moves to a different home or passes away.
So what happens then?
Your heirs will have several options to choose from. They can either sell the property to repay the loan and get to keep any equity that was left. They can also refinance the mortgage if they plan to keep the property. And if the loan balance exceeds the home value, your heir can surrender the property to the lender without having to worry about repaying any additional amount.
A reverse mortgage is not for everyone. Although there are benefits to this type of loan, there are also reverse mortgage cons that you need to consider.
Although a reverse mortgage doesn't require a monthly mortgage payment, there are still expenses that you need to pay.
The cost of a reverse mortgage might include a lender's fee, mortgage insurance, counseling fee, and other closing cost fees. Some of these fees can be rolled into your loan balance; however, that'll mean that you'll have more debt and less equity.
Additionally, you need to make sure that you keep up with your monthly obligations such as taxes and insurance. Otherwise, you might end up losing your property.
A mortgage interest deduction allows homeowners to deduct the interest they pay on a mortgage loan used to buy, build, or improve their property from taxable income. This will help lessen the amount of taxes they owe each year.
But since you'll be paying the interest rate at the end of a reverse mortgage, that means that you won't have access to this incentive until that time comes.
There are multiple ways you can receive your reverse mortgage proceeds. However, only the lump sum option has a fixed rate. All the other options have adjustable interest rates.
A reverse mortgage could impact your eligibility for Medicaid or Supplemental Security Income (SSI). This is why counseling is required before you decide to take a reverse mortgage, so you fully understand how it might affect your financial and personal circumstances.
You or your heir might not have to worry about paying off a reverse mortgage unless you move out, sell the property, or pass away. But that doesn't mean that there's no risk of foreclosure.
Senior borrowers can have their homes foreclosed if they fall behind on property taxes, monthly mortgage insurance premiums, and HOA dues.
A reverse mortgage can be very complicated. Changes in your status can have an adverse effect on your reverse mortgage as well. You have to consider what will happen to the property, your spouse, or your heirs if you move to a long-term care facility or if you pass away. There are a lot of risks involved in a reverse mortgage, that's why it's important to talk to a professional so you can fully understand what's at stake.
Have questions about reverse mortgages? Ebenezer Mortgage Solutions is a mortgage broker in Tampa that can help you understand the reverse mortgage process or look for alternatives that might suit your circumstance better.
If you're also interested in other types of home loans such as conventional and FHA loan mortgage in Tampa , we can help you access the best deals in town. Call Ebenezer Mortgage Solutions today at (813) 284 - 4027 for more answers to your questions about home loans.