Recently, I have repeatedly seen a television advertisement featuring a prominent former United States senator enticing viewers to enter into a financial transaction that trades home equity and ownership rights for cash. It’s called a reverse mortgage.
If you are 62 or older and are looking for money to supplement retirement income, finance a home improvement, pay off your current mortgage, pay for healthcare expenses, or any type of expense at all, you might consider this product. But it’s complicated and expensive, and there are pitfalls, as well as benefits.
The only requirements to obtain a reverse mortgage are that you are 62 or older and live in your home. The reverse mortgage must be the first and only lien on the property. It is possible to use some of the proceeds from the reverse mortgage to pay off a small existing mortgage so that the reverse mortgage is the first and only lien. To keep the loan out of default, you must stay current on insurance, taxes, and maintenance. Reverse mortgage loan payments to you are not taxable, and generally don’t affect your Social Security or Medicare benefits. You can choose fixed monthly cash advances, a line of credit, or a combination of the two. You retain the title to your home. The loan must be repaid when the last surviving borrower dies, sells the home, or no longer lives in the home as a principal residence.
It sounds too good to be true. What are the pitfalls?
- Excessive fees: Lenders generally charge an origination fee, a mortgage insurance premium, and other closing costs for a reverse mortgage. Lenders also might charge servicing fees during the term of the mortgage, which reduces the amount of money you actually receive.
- High interest rate: The interest rate on a reverse mortgage is often higher than a more traditional home equity loan. This will also reduce the amount of money you actually receive.
- Variable interest rate: Although some reverse mortgages have fixed rates, many have variable rates that are tied to a financial index and are likely to fluctuate with market conditions.
- You’re still responsible for home costs: Because you retain the title to your home, you are responsible for property taxes, insurance, utilities, fuel, maintenance, and other expenses. If you don’t pay property taxes, carry homeowner’s insurance, or maintain the condition of your home, your loan may become due and payable.
- You have to repay the loan when you move out: And not just by dying. Just being out of the house for a year is all it takes. This includes moving to a nursing facility. So, if you are no longer able to stay in your home, but you haven’t died, you have to start repaying your reverse mortgage at a time when it may not be possible.
- Your spouse or partner may be evicted: If your spouse or partner is not one of the borrowers, they will need to move out as well. This can be especially harsh if you have died and they are grieving.
- Your heirs will likely lose the home: Reverse mortgages can use up some or all of the equity in your home, and leave fewer assets for you and your heirs. Most reverse mortgages have a “non-recourse” clause, which prevents you or your estate from owing more than the value of your home when the loan becomes due and the home is sold. However, if you or your heirs want to retain ownership of the home, you usually must repay the loan in full – even if the loan balance is greater than the value of the home.
Think carefully and do your due diligence before you enter into this type of loan arrangement. There may be other less costly and less permanent solutions to your financial problems.