Weighing the Options–The Pros and Cons of Reverse Mortgage
Michael Jones
Many seniors today are faced with the realization that the cost of living is continuing to rise and their retirement income may not be enough to meet the active lifestyle they are used to. With the high cost of insurance, medical expenses and mortgage payments, some retired individuals are struggling to keep their heads above water let alone enjoy their retirement years.
If you are in your retirement years, or you find yourself looking after aging parents who are struggling financially, a possible solution might be a Home Equity Conversion Mortgage (HECM) more commonly known as a reverse mortgage. If you are looking down the road at retirement, it may be helpful to learn what options are available for future planning.
Even though this loan is backed by the U. S. Department of Housing and Urban Development (HUD) it is often disregarded because of common misconceptions about reverse mortgages.
I’ve had clients tell me that their friends have warned them they shouldn’t get a reverse mortgage. When I’ve asked them to explain why, they just say that they’ve heard bad things about them or that they are a “scam”. When I ask them what specifically is bad, they don’t have an answer. It is simply based on misconceptions or fear.
So what is a reverse mortgage and who might benefit from this product? A reverse mortgage is a loan that allows borrowers to tap into the equity they have accumulated in their home, pay off their existing mortgage or other debt, take cash out and remain in their home as long as they choose, without having to make monthly mortgage payments. To be eligible for a HUD reverse mortgage, The Federal Housing Administration (FHA) requires all borrowers to be at least 62 years old, live in the home as their primary residence and have enough built up equity in the home. The amount of money you can take out is based on your age, the interest rate, and the value of your home. Because the money you receive is considered loan proceeds and not income, you are not taxed on the money. The loan is repaid when you either move out of the house or the last borrower passes away and the remaining equity goes back to you or your heirs. There are no income or credit requirements for a reverse mortgage.
Reverse mortgages have several payment options.
- Receiving a lump sum of cash at a fixed rate;
- Receiving monthly payments at an adjustable rate;
- Having your funds in a line of credit;
- Or receiving a combination of these: getting a smaller lump sum and monthly payment or a line of credit.
When you meet with a reverse mortgage specialist, they can help you determine how much you can borrow and help you choose the best option to suit your needs.
Before you can proceed with a reverse mortgage, you must attend a counseling session with an independent HUD approved counselor. This is required for anyone taking out a reverse mortgage. They will make sure you understand the terms of the loan and how the reverse mortgage works. They will also review your financial situation and look at any other options that may be available to you. This is an important step and helps you to look at the loan with an independent third party who has no incentive for you to go ahead with your loan.
As with any financial product, a reverse mortgage may not be right in every situation. In the past, one of the biggest concerns with reverse mortgages was the up-front closing costs. In the last year up-front costs on certain types of reverse mortgages have come down substantially. Fixed rate reverse mortgages now rarely have origination fees or servicing fees. The costs have come down thousands of dollars over a few years ago. Despite this, if you are planning on moving out of the home in a year or two, you need to look at how much the closing costs are and determine if it makes sense to go ahead with this loan.
Reverse mortgages generally do not impact Medicare or Social Security benefits however, if you have Medicaid you need to be careful to structure your loan so that your benefits are not affected. Talk to your provider to make sure they understand your situation and how the loan could affect you.
Another thing to consider is the fact that over time the loan balance does in fact go up and you lose equity. If you’re someone who really wants to keep the home in the family, you need to realize that the loan does need to be paid off eventually. The most common way of paying off the loan is to sell the home. Unless your heirs have some way of refinancing the loan, the home must be sold. I find it is important to involve family when they are affected by your decision to take out a reverse mortgage. They may be uncomfortable thinking that you are tapping into their inheritance or taking what they think is theirs. More often than not, I have found that adult children are very understanding and if the financial situation is one where the reverse mortgage is needed, they will be the ones who encourage their parents to use a reverse mortgage as a solution to their financial needs.
There are many different reasons for taking out a reverse mortgage and there are no restrictions on how you spend your money. The most common reason for a reverse mortgage is to pay off an existing mortgage and increase your cash flow by eliminating monthly mortgage payments. Senior borrowers use a reverse mortgage for many reasons. One time, we saved a home from a foreclosure auction with no time to spare. Another client used the proceeds to buy a second home in Idaho close to children and grandchildren. This is allowed as long as they live in their primary home at least 6 months out of the year. One borrower used the funds to help their child buy their first home and another helped their grandchildren with college. Quite often people use proceeds just to help with the expense of medical care.
There are some exciting things happening in the reverse mortgage market today. In October, HUD introduced a brand new product called the HECM Saver, a new low cost reverse mortgage. This product is for borrowers who want to borrow a smaller amount than the standard HECM with lower upfront costs. The HECM Saver is available as a fixed rate or an adjustable rate loan. This is a great option for someone who wants a small line of credit for emergencies but doesn’t want to pay a lot to set it up and wants to keep most of their equity to pass on to their heirs.
Another product that is fairly new to the market is the HECM for purchase program. This loan allows buyers who are at least 62 to purchase a primary residence with a larger down payment and live in the home without making mortgage payments. This is a great option for seniors who are downsizing and can use the proceeds of the sale to put into the new home. Or if someone is planning to make a cash purchase, they can keep some of their money liquid to use for other purposes and still don’t have to worry about a mortgage payment.
Using the equity in your home by taking out a reverse mortgage can be a good idea but remember, your home is probably your most valuable financial asset, and it’s a decision you should consider carefully. If you want to stay in your home as you grow older, the equity in your home could become the way to make it happen.
Michael Jones is a Reverse Mortgage Specialist with Integrity First Financial in Salt Lake City (www.integrityfirstreverse.com). Contact him at 801-230-3496 for a free consultation to discuss what options are available and what you qualify for. You can email him with questions at michael@integrityloans.com.
