Is a Reverse Mortgage a Wise Choice?

You may have seen the television commercials which feature Henry Winkler or Tom Selleck presenting the topic of a reverse mortgage in a calm and assuring tone of voice.  On the surface, it seems harmless enough.  Would “the Fonz” or “Magnum PI” point anyone in the wrong direction?  Let us briefly explore this topic for careful consideration.

Many of us are familiar with a “standard” style mortgage:  A home buyer or homeowner borrows money from a mortgage lender or bank using the home itself and the property it is sited on as collateral against repayment of the loan over a period 15, 20, 30 or more years (from time to time, 40-year mortgages are available, believe it or not).  The homeowner then begins the seemingly never-ending obligation of making monthly payments to the lender. 

Reverse mortgages work in, well, reverse.  With a reverse mortgage, a mortgage lender, bank, or non-profit organization lends a borrower money based upon the equity they have built in their home.  The payments can be made in monthly installments or one lump sum.  The lender will typically only lend a certain percentage of your total home equity.  So far, it might sound intriguing to some.  Read on.

Here are the initial qualifying requirements of a reverse mortgage:

• A borrower must 62 years of age or older.
• Generally, a borrower’s home must be completely paid off or only a small balance remaining on the mortgage or home equity loan/line of credit.
• The home a borrower wishes to encumber with a reverse mortgage must be their primary residence.  Second homes or investment properties do not qualify.  However, if someone owns a property up to a “quad-plex” or up to four units found on one deed, so long as the borrower lives in one of the units, that property qualifies.
• Condominiums qualify if the community and homeowner’s association were approved by the Department of Housing and Urban Development. Not all condominium communities have such certification.  It is expensive for the builder/developer to achieve and can be a lengthy, bureaucratic process.  Because of those things, I have been asked by several builders and developers “Is it really worth the time and expense for marketing and sales purposes?”.   That is a topic for another day.
• A borrower must have sufficient cash flow for proper maintenance of the home and to pay the homeowners insurance together with the general property tax and school tax obligations.

Types of Reverse Mortgages

• Single purpose reverse mortgages:  This type of reverse mortgage is offered by some state and local government agencies as well as some non-profit organizations.  This type of reverse mortgage loan can be used only for a specified purposes such as home repairs or improvements or property taxes. 
• Home equity conversion mortgages:  These are known as “HECM’s”.  They are Federally insured and backed by the US Department of Housing and Urban Development.  These loans may be used for any purpose. 
• Proprietary reverse mortgages:  This type of reverse mortgage is offers by private companies.  They are not regulated by the government in any way. 

Disadvantages of a Reverse Mortgage:

There are closing costs associated with reverse mortgages just like any other type of mortgage.  Closing costs include such things as an upfront origination fee, mortgage insurance, appraisal fees, credit checks and “processing” fees.  Typically, this will amount to several thousands of dollars.  Some lenders may provide an option where these costs are rolled into the loan, which might sound inviting.  However, when a borrower stops to consider that will simply increase the amount of debt owed to the lender.

The accrued interest on the loan is not tax deductible each year.  A borrower can only deduct the interest when the loan is paid in full. 

“A reverse mortgage isn’t some kind of trick to take your home…it’s a loan.”

This assuring quotation is taken directly from a commercial promoting reverse mortgages.  Consider a situation in which a borrower might unknowingly and unintentionally place themselves in a position of losing their home. 

If someone is considering a reverse mortgage to “help ends meet”, their finances are likely in an unfortunate and uncertain condition.  If property taxes and other expenses are not paid, this is a scenario which can quickly become problematic.

With many elder homeowners, routine maintenance and home repairs become increasingly difficult to tend to over time because other pressing matters require their attention.   During this station in life, imperative situations can accumulate quickly causing some people to feel overwhelmed and unable to make clear and pragmatic decisions.

How is the loan repaid?

If the lender is paying a borrower an amount of money which represents a percentage of their equity in their home, how does the loan get paid back to the lender?  Generally, a borrower will not have to repay the money while the borrower is living in the home.  When the borrower perishes, or moves somewhere else, the borrower, their spouse or estate becomes financially responsible to repay the loan in full.  That may mean selling the home in the hope of realizing the necessary proceeds from the sale of the property to repay the loan to the lender.

Often, reverse mortgages place elder homeowners in a more adverse financial circumstance than they were before. 

Reverse mortgages may initially sound or look inviting.  However, if a homeowner is considering a reverse mortgage to help meet expenses, perhaps other alternatives should be explored simultaneously so the borrower may make an informed decision.  

If you know someone who is considering a reverse mortgage, it may be a wise investment of time and a worthwhile effort to talk to a counselor at the United States Department of Housing and Urban Development.  They may be reached at 1-800-569-4287.