The Pros And Cons Of Reverse Mortgages
If you are 62 years of age or older, own your home and are strapped for cash, you might be considering a reverse mortgage. However, you should not take out a reverse mortgage without fully understanding what a reverse mortgage is and what the pros and cons associated with it are. Read on for a helpful overview on the advantages and disadvantages of reserves mortgages.
What Is A Reverse Mortgage?
The best way to understand a reverse mortgage is to think of it as the opposite of a mortgage. With a traditional mortgage, you pay the mortgage lender a monthly mortgage payment. With a reverse mortgage, your mortgage lender pays you in one, or a combination, of the following ways:
- A monthly payment for a fixed or unfixed amount of time
- A lump sum payment
- A home equity line of credit that you can draw down as you choose
The payments that you receive from your mortgage lender are essentially a loan that is secured by the equity you have in your home. Your home equity is determined by taking the appraised value of your house and subtracting the remaining amount owed on your mortgage. For example, if your house is valued at $500,000 and the remaining amount owed on your mortgage is $50,000, your home equity value is $450,000. In this example, a reverse mortgage would allow you to borrow against a portion of the $450,000 equity value in your home.
Because a reverse mortgage is secured by the equity in your home, you cannot get a reverse mortgage unless you have fully paid off your mortgage or you have paid off enough of it to build up a substantial amount of home equity.
The actual amount you can borrow will depend on your age, the current interest rate and the equity value in your house. Generally speaking, the amount you can borrow increases with your age and amount of equity in your house. A lower interest rate will also allow you to borrow more.
How Do You Qualify For A Reverse Mortgage?
In order take out a reverse mortgage on your home, you must meet the following requirements:
- Be at least 62 years of age
- Have fully paid off your mortgage or have paid off a substantial portion of it
- The home must be your primary residence
- The home must meet all property requirements set by the lender
- You cannot have defaulted on any federal debt
- If you get a government sponsored reverse mortgage (also called an HUD reverse mortgage), you must attend an information session with an approved reverse mortgage counselor before receiving the loan. While you may be able to attend a session for free, you might have to pay for this counseling.
Pros Of A Reverse Mortgage
- They Are Easy To Obtain: As long as you meet the requirements listed above, you can get a reverse mortgage. There are generally no credit checks or income requirements.
- Flexibility: In most cases (note that some lenders restrict what you can use the loan proceeds for), you can use the loan money for whatever you want. Many people who take out a reverse mortgage use the funds to supplement their income, to pay off their mortgage, to make home improvements or to pay for medical expenses. However, there are usually no restrictions on how you can spend the money.
- Long Term Loan Repayment: Unlike other types of loans, a reverse mortgage does not have to be repaid until the borrower is no longer using the home as a principal residence. For many people, this means that they do not have to repay the loan until they die. Upon their death, your estate can sell the house to repay the loan and any remaining amount of money will go to the surviving spouse or to the estate. If you choose to move to another primary residence or sell your home before you die, you will have to fully repay the reverse mortgage. Additionally, if you stop paying your property taxes or home insurance, you can default on the reverse mortgage and will have to repay the loan immediately.
- Proceeds Are Not Taxable: The proceeds from the reverse mortgage are generally tax free. You should speak with a tax professional before taking out a reverse mortgage to fully understand any tax implications.
- You Can Stay In Your Home: If you are having trouble paying off the last chunk of your mortgage, you might be in danger of losing your home. However, a reverse mortgage can allow you to pay off the remaining portion of your mortgage so you can stay in your home.
Cons Of A Reverse Mortgage
- They Are Expensive: You are continually charged interest while you are a borrower on a reverse mortgage. Therefore, the amount that you have to pay back increases steadily over time. You might not have any home equity left when it comes time to repay the mortgage.
- You Can Lose Your Home: Unless you come into some money or someone else offers to pay off your reverse mortgage, you (or your lender in the case of your death) will likely have to sell your house to repay the loan. If your house has sentimental value or you want to leave it to your family, you might want to reconsider getting a reverse mortgage unless you are confident someone will be able to pay off the loan without selling your house. Also, if you default on the reverse mortgage, your lender may be able to foreclose on your home.
- The Fees Can Be Substantial: Lenders often charge fees for reverse mortgages some of which are recurring. These fees can be substantial depending on your lender and your financial situation. Standard fees include loan origination fees, closing costs, mortgage insurance premiums and servicing fees. Additionally, you will still have to pay for property taxes and home insurance.
- There Might Be Better Alternatives: Instead of taking out a reverse mortgage, you might consider selling your home and moving into a smaller house or apartment. You could also add a roommate or roommates to help supplement your income. Finally, you might look into refinancing your mortgage or taking out a home equity loan or a line of credit. There are pros and cons to each of these scenarios so you should do your homework before making a final decision. (For more information on home equity loans and home equity lines of credit, see Helpful Advice On Taking Out A Second Home Loan Mortgage.)
Taking out a reverse mortgage can be the perfect solution for you if you own your home and are in need of excess income. However, reverse mortgages are not for everyone. Do your homework ahead of time and you will be well prepared to make the best decision regarding a reverse mortgage.