Reverse Mortgages For Seniors: The Good, The Bad, and the Not So Ugly

If you or a loved one has started to look at senior living options, doubtless you've experience at least a moment of sticker shock. Indeed, according to a recent Seniorly study, the average cost of assisted living is $4,401 per month. In recent years, price increases have been fueled by macroeconomic factors, including inflation, skilled labor costs, and overall demand.

As a result, many older adults have gotten creative about finding new ways to finance senior living or in-home care costs. And while the reverse mortgage may have gotten a bad rap during the 1980's, there are some cases in which a reverse mortgage might make sense for an older adult contemplating care costs. In fact, the government has taken special steps to provide a regulatory framework for reverse mortgages because they do make sense in certain circumstances.

A reverse mortgage is a special kind of loan that's only available to adult homeowners who are at least 62 years old. In layman's terms, the asset that covers the loan is the equity that lies in a home, and certain older adults can borrow against that equity.

The funds from a reverse mortgage may arrive in the form of a new credit line. They can be provided as fixed monthly payments, or even in a lump sum. Senior homeowners will also find that reverse mortgages are purposefully set up so the loan balance rarely exceeds the value of their primary residence.

A reverse mortgage loan can help an older person who may benefit from extra funds in the near future. However, reverse mortgage proceeds can likewise worsen already existing financial complications. Whether or not a loan of this nature does more harm than good will depend upon each person's circumstances.

In light of this, anyone who's looking into acquiring reverse mortgage funds needs to understand the ins and outs of reverse mortgages, along with the benefits and risks of reverse mortgage loans. Having access to this information goes a long way when considering factors like everyday living expenses, medical bills, finding reputable lenders, and much more.

Who is a good candidate for a reverse mortgage?

Depending on your circumstances, reverse mortgages can truly come in handy.

More often than not, senior homeowners stand to gain the most from a reverse mortgage when they're not planning on moving or selling their home in the near future. If you are preparing to move in the foreseeable future, reverse mortgages can invite avoidable complications.

It's also advantageous for anyone thinking of a reverse mortgage to have the means to keep up with their homeowners' insurance dues and property taxes. They'll also need to easily handle the physical upkeep that homeownership demands.

Homeowners who are married should also have spouses who are at least 62 years old. A younger spouse to someone who's at least 62 will not be eligible to get funds from a reverse mortgage, even if the homeowner passes away.

Benefits of reverse mortgages

For those who meet the above criteria, getting a reverse mortgage can help liquidate a valuable asset - for most Americans of a certain age, the home is the single biggest asset they own. With a new lump sum of funds, things like covering retirement expenses and paying off an existing home loan balance become much easier. Extra retirement income can even help homeowners cover fees for healthcare, pets, starting a new business, etc.

As an added bonus, in the rare case that a reverse loan balance exceeds the home's value, neither borrowers nor their heirs or co-borrowers will be responsible for paying the difference.

Risks of reverse mortgages (yes, it is a debt!)

Older people who are struggling with the costs of a traditional mortgage, lacking at least 50% home equity, or living with people who don't meet the qualifications for most reverse mortgages may not want to go the route of getting a reverse mortgage. It can adversely impact them and the people closest to them. In the simplest of terms, a reverse mortgage is a form of debt.

In fact, anyone who lives in a home where the owner has a reverse mortgage - yet doesn't meet the requirements for reverse mortgages themselves - will have to move out if the homeowner passes away before them. Likewise, an elderly homeowner who goes to a nursing home for 12 successive months is considered to have officially moved out, per the regulations of reverse mortgages.

All things considered, older homeowners facing serious health issues, finding themselves low on cash flow to cover ongoing expenses, or living with younger relatives may determine that the risks of reverse mortgages outweigh the benefits.The rules and regulations attached to reverse mortgages may work well for some older homeowners. Yet, these same guidelines could also be disastrous to others.

The most common form of a reverse mortgage is the home equity conversion mortgage (HECM). This loan is provided by the Housing and Urban Development (HUD) Department and ensures that anyone getting funds meets the requirements of the Federal Housing Administration (FHA).

According to the Federal Housing Administration (FHA), HECM reverse mortgages may not exceed $970,800. This monetary limit on HECM variations of reverse mortgages exists because the funds are coming from the federal government, rather than a private lending institution.

As such, older homeowners seeking a reverse mortgage - while owning a more expensive primary residence - may not really get their money's worth with home equity conversion mortgages.

What is a non-HECM loan?

Non-home equity conversion mortgages are provided by private lending institutions; however, this comes with its own pros and cons. While a non-HECM reverse mortgage can offer a higher lump sum payment, this loan isn't federally insured like HECMs are. Moreover, because non-HECMs often provide borrowers with a greater lump sum, a higher line of credit, etc., the costs of acquiring this reverse mortgage balance are often more expensive than HECMs.

Any older homeowner who's looking into getting a reverse mortgage will want to compare their options under HECMs vs. non-HECMs, then think about monthly payments, cash flow, and other fees. Only after this can they truly determine which options are most worth their while.

While a non-HECM reverse mortgage may be seen as riskier, some people might also argue that the benefits are greater than HECMs. There's no right or wrong answer across the board, seeing as every homeowner's situation is different.

Counseling for a reverse mortgage

Homeowners who seek out a Home Equity Conversion Mortgage (HECM) loan are mandated by the HUD department to get reverse mortgage counseling. This requirement exists to make sure older homeowners understand how reverse mortgages work, what's required to get a reverse mortgage, and the personal finance commitments they'll be signing up for, should they be approved for an HECM.

Before one can even fill out a reverse mortgage application, they have to complete this counseling. Ahead of the counseling session, the homeowner is also obligated to get a pre-counseling package. This material will cover a variety of information, such as loan fees, the schedule for loan amortization, a comparison of loans, servicing fees, variations in the interest rate, and more.

If you're interested in a reverse mortgage, you can complete counseling in person or over the phone. However, you may incur fees. Furthermore, going through the counseling process does not guarantee your approval for a reverse mortgage.

Ok - so reverse mortgages can offer a financial lifeline by tapping into home equity for those aged 62 and older, but it's important to understand the costs and fees associated with them. Here are some specific examples of reverse mortgage costs and fees:

• Origination Fee: This fee is paid to the lender to cover the costs of processing your reverse mortgage loan. It can vary based on the lender and the loan amount, but it's capped by the government. The fee is usually the greater of $2,500 or 2% of the first $200,000 of your home's value plus 1% of the amount over $200,000, with a cap of $6,000.
• Mortgage Insurance Premium (MIP): For a Home Equity Conversion Mortgage (HECM), the most common type of reverse mortgage, there are two types of MIPs: an upfront MIP at closing (2% of the home's value or the FHA lending limit, whichever is less) and an annual MIP (0.5% of the outstanding loan balance). These insurance premiums protect both the lender and borrower in case the home's value doesn't cover the loan balance when it's repaid.
• Appraisal Fee: An appraisal is required to determine your home's current market value. The fee for this service can vary depending on the location, size, and complexity of your property but typically ranges from $300 to $500.
• Closing Costs: Similar to traditional mortgages, reverse mortgages come with several closing costs, including credit checks, flood certification, escrow services, document preparation, and recording fees. These can add up to several thousand dollars.
• Servicing Fee: Some lenders charge a monthly servicing fee to manage the loan over its term, which can range from $25 to $35. This fee covers the cost of sending account statements, disbursing loan proceeds, and ensuring compliance with loan terms.
• Loan Repayment Costs: While not a "fee" in the traditional sense, it's crucial to understand that the loan balance, including accrued interest and fees, becomes due when the last borrower moves out, sells the home, or passes away. The interest rates on reverse mortgages can be fixed or variable, impacting the overall cost of the loan over time.

What are the income options for HECM loans?

Unlike non-HECM loans, HECMs stand out for their flexible income options, designed to cater to various financial needs and preferences. Here's a closer look at each option:

• Line of Credit: This option allows borrowers to access funds as needed, up to a certain limit, offering flexibility to manage expenses over time. It's ideal for those who prefer to have a safety net for unexpected costs.
• Lump Sum Payments: Borrowers can opt for a one-time, upfront payment, providing immediate access to a larger sum of money. This is suitable for covering significant expenses or debts right away.
• Monthly Cash Advances: This steady income stream is akin to receiving a monthly paycheck, helping to cover ongoing expenses such as bills, groceries, or medical costs. It's a reliable way to supplement income.
• Combination: For those seeking versatility, combining all three options tailors the financial solution to personal needs, allowing for both immediate and future expense planning.

Each of these income options offers a way to enhance financial flexibility, providing valuable support for managing living expenses and enjoying a more comfortable retirement. Depending on whether you have upcoming expenses in the near future, some income options may prove to be more advantageous than others.

A higher line of credit from an HECM loan can also require you to pay interest at higher rates. Depending on your situation, the supplemental income provided by this type of reverse mortgage will come with different strings attached, some offering more than others.

It's for this very reason that asking questions during reverse mortgage counseling is very important. Before you agree to any sort of loan, make sure you're clear about the terms and conditions, potentially having to pay higher upfront costs, etc.

Having this clarity will aid you in maximizing the upsides of reverse mortgages, while minimizing the risks tied to them.

Understanding interest rates connected to HECM loans

When you get a reverse mortgage in the form of an HECM, it's essential to understand what the associated interest rates entail. Reverse mortgage payments of this type are connected to the security rate of the US Treasury. As such, HECM borrowers can select interest rates that change on a monthly or annual basis.

• Monthly interest rates typically start off lower than their annual counterparts. However, the monthly rates can also rise or fall by as much as 10% throughout the duration of the loan.
• Annual interest rates won't rise by more than 2% each year or more than 5% throughout the loan's lifetime.

Some homeowners will benefit most from monthly rates, whereas others might fare well with annual rates. This is something worth discussing during counseling, as you'll be able to hash out the particulars of your situation and figure out which choice is best for you.

Under the right circumstances, reverse mortgage proceeds can be extremely lucrative, helping homeowners make considerable money from their primary residence. Nevertheless, just as understanding all the details of a reverse mortgage is essential, so is being mindful of reverse mortgage scams.

These scams sometimes involve getting a power of attorney to take a reverse mortgage an older person's home, and then having the homeowner make a purchase that will benefit the scammer. In some cases, people running reverse mortgage cons are relatives, caregivers, or otherwise known to the individual they're targeting.

Other reverse mortgage scams involve private lenders and financial advisors (or individuals posing as private lenders and financial advisors) convincing older homeowners to sign up for loans. Then, once the loan is approved, the scammer usually steals the funds, leaving the borrower with steep reverse mortgage costs, monthly mortgage payments, and other debts they can't afford.

Cons like this are one reason why counseling is mandatory for anyone seeking an HECM loan. Regardless, there is no mandatory counseling for non-HECM loan seekers, which is where many scammers sense an opportunity to make easy money.

If you are concerned you are the target of a reverse mortgage scam:

• Call HUD's Office of Inspector General Hotline at 1-800-347-3735
• Check the Office of Inspector General fraud bulletin
• Fill out a hotline reporting form 

Is a reverse mortgage tax free?

If you're seeking reverse mortgage funds, you may be surprised to learn that reverse mortgage proceeds are not viewed by the federal government as income. As such, you won't be taxed for the money. Instead, the IRS classifies this type of revenue as "loan advances."

The federal government's view of reverse mortgage income also means your Medicare benefits and Social Security benefits won't take any hits. Although, if you end up seeking Supplemental Security Income (SSI), you might not be eligible if you have a reverse mortgage. This type of "loan advance" is still deemed as a personal asset.

How to pay off a reverse mortgage

No matter what type of reverse mortgage you have, knowing how to pay it off is crucial. Thankfully, you have multiple options, no matter the reverse mortgage lender you're working with.

• Home sale: One choice is to sell your home. If you do this, the lender will be the first one to get the proceeds in accordance with what you owe on the loan. Anything that's left over afterward will then go to you or to your estate. Even if the value of your primary residence is less than the balance of your loan, selling the home is still possible.
• Refinancing: Another way to pay off a reverse mortgage is via refinancing the loan. This will turn a reverse mortgage loan back into a traditional mortgage. Homeowners who go this route will need to make sure they keep up with the monthly payments of a traditional mortgage. Otherwise, the reverse mortgage lender will have the leverage to claim this home as collateral.

If the heirs of a homeowner want to pay off the original borrower's reverse mortgage, they may be able to do so by simply getting a new mortgage on the home. This is quite similar to refinancing a reverse mortgage into a traditional mortgage; as such, the heirs will need to make monthly payments on the home in order to keep it.

What happens if a reverse mortgage borrower dies?

Upon the death of a reverse mortgage borrower, any co-borrowers will be responsible for adhering to the loan terms that the now-deceased borrower agreed to. In cases where there are no co-borrowers, then the original borrower's heirs will be responsible for paying off the loan.

Once the heirs get a due and payable notice from the mortgage lender, they'll have between 30 days to six months to act. The timeframe may vary, depending on whether the mortgage is HECM or non-HECM.

Following the due and payable notice, the heirs can either sell the home, refinance the loan into a traditional mortgage, or take out a new mortgage in order to hold onto the residence.

Heirs who aren't able to take one of the aforementioned steps in the time period granted to them will need to hand over the home's deed to the reverse mortgage lender in order to settle the debt.

For more information on this matter, contact a housing counseling agency approved by the HUD Department or get in touch with an attorney. Doing so can provide more details that are applicable to your situation and inform you of what your options are.

Reverse mortgages for seniors generally work best when a payment plan is set ahead of time. Making sure that any co-borrowers and/or heirs are on the same page regarding reverse mortgages can also ensure that things run smoothly, even if the original borrower passes away before paying back the loan.

Make sure a reverse mortgage is right for you

Exploring a reverse mortgage involves several crucial steps to ensure it fits your financial situation and retirement goals. Here’s a breakdown of the essential actions you need to take:

• Assess your financial situation: Review your financial status, including income, debts, and monthly expenses. Understanding your financial landscape helps determine if a reverse mortgage can meet your needs and how to best use the funds.
• Consult with a HUD-approved counselor: Meeting with a HUD-approved counselor is a mandatory step before applying for a reverse mortgage. They provide impartial education about how reverse mortgages work, their financial implications, and alternative options, ensuring you make an informed decision.
• Evaluate your home’s eligibility: Your home must meet certain criteria set by the FHA, including your ownership status, property type, and maintenance condition. Ensuring your home qualifies is a key step before proceeding.
• Compare lenders and loan types: Not all reverse mortgage lenders offer the same terms and rates. Research and compare different lenders to find the best fit for your financial needs and to secure favorable terms.
• Understand the costs and fees: Reverse mortgages come with various costs, such as origination fees, closing costs, and mortgage insurance premiums. Familiarize yourself with these expenses to avoid surprises and manage your budget effectively.
• Discuss the decision with heirs or other loved ones: Engaging in an open conversation with your heirs or close family members about your decision to consider a reverse mortgage is important. It affects estate planning and how your home equity will be handled in the future. Sharing your reasons, the benefits you see, and the potential impacts on inheritance can help alleviate concerns and ensure that your loved ones are supportive and informed about your financial plans.