A reverse mortgage might sound like an ideal way to bring in extra income during your retirement. If you’re a homeowner agd 62 or older, a reverse mortgage lets you convert your home equity into cash without moving out. And those TV commercials with Henry Winkler and Robert Wagner urging you to apply are pretty enticing. So if you're at least 62, have built up some sizable home equity, and don't plan to move soon, a reverse mortgage might be worth considering.
But this type of loan is tricky and potentially expensive. (The new Consumer Financial Protection Bureau is looking into the risks of reverse mortgages and AARP has filed two suits against lenders.) So you need to be cautious before signing on the dotted line.
How a Reverse Mortgage Works
With a reverse mortgage, you can receive the money — tax-free — as a lump sum, in monthly checks, or as a line of credit. You don’t have to make payments on the loan, but the reverse mortgage must be paid off (principal and interest) when you die or sell the home.
If you don’t pay your property taxes and homeowner’s insurance on time, the reverse-mortgage lender can foreclose on you. MetLife now requires applicants to prove they’ll be able to keep paying their property taxes, homeowners' insurance and home upkeep costs.
Reverse mortgages are offered through the Federal Housing Administration’s Home Equity Conversion Mortgage
program, known as HECM, and by private lenders. To be accepted for a federally insured reverse mortgage, you must meet with a counselor approved by the U.S. Department of Housing and Urban Development. The counselor will explain the ins and outs of reverse mortgages and help you decide if one makes sense for you. (It's a good idea to talk with one if you're planning to get a reverse mortgage from a private company, too.) The National Council on Aging has HUD-approved counselors; you can schedule a session by calling (800) 510-0301. You can also find a local counselor by using the U.S. government’s website
or calling its toll free number: (800) 569-4287.
How much you can borrow depends on your age, home value, interest rates and the loan’s fees. The National Reverse Mortgage Lenders Association website has a calculator
that lets you see how much you can borrow and what you’ll pay for the loan.
Older borrowers can tap a higher percentage of their home’s value than ones who are 62 or so. There's no simple formula, but here's an example: A 90-year-old with a house worth $200,000 could get a reverse mortgage of 75 percent of the home's value, or $150,000, while a 63-year-old homeowner could get just 60 percent, or $120,000.
What a Reverse Mortgage Costs
Like traditional mortgages, reverse mortgages come laden with fees.
As Ben Birken, a financial planner with Woodward Financial Advisors in Chapel Hill, N.C., explains, you’ll face an assortment of upfront fees, including initial mortgage insurance premiums, loan origination fees, appraisal fees and, in some cases, the cost of the reverse-mortgage counselor. The fees could total roughly $2,000, Birken says, depending on where you live.
In addition, a monthly mortgage insurance premium equal to 1.25 percent of the outstanding balance on the loan will accumulate, as well as interest on the loan.
One Way to Cut an Upfront Cost
You can lower a reverse mortgage's initial insurance premiums with the Federal Housing Administration’s HECM Saver Loan. The downsides of this loan, however, are that the amount you can borrow will be 10 percent to 18 percent lower than with a traditional HECM reverse mortgage, and the interest rate will be higher.
A Possible Unpleasant Surprise for Your Heirs
Family members may be disappointed by the amount of money they’ll receive if they sell your reverse-mortgaged home after you die. John Hauserman, a financial planner in Marriottsville, Md., says the fees and interest due on the reverse mortgage upon your death may leave heirs with a house that has considerably less value than they expected: “Unlike a traditional mortgage, the interest due can build up indefinitely and may very well swallow up the value of the house,” Hauserman says.
What to Do Before You Apply
If you’re thinking about getting a reverse mortgage, be sure to do the following:
Take the counseling seriously. Make the most of your meeting with a mortgage counselor. The counseling session is intended to ensure that a reverse mortgage is in your best financial interest, so ask whether there may be better alternatives for you.
Weigh the alternatives. A conventional home-equity loan or credit line mandating repayment may be a less expensive choice than a reverse mortgage, with lower closing costs. Also, you may gain access to the money faster. Reverse mortgage processing can take 10 weeks and even longer, says Mark Gordo, a financial planner with Aapex Financial in Woodstock, Md.
Take advantage of online government resources. Next Avenue has a useful article about reverse mortgages on our site. The U.S. Department of Housing and Urban Development also has a good article with commonly asked questions about reverse mortgages. And the Federal Trade Commission has a helpful online booklet, too.
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