How a Reverse Mortgage Works for Seniors
Reverse mortgages are intended for seniors who want to supplement the income they receive from their retirement funds and social security.
If you could use some extra funds after retirement, a reverse mortgage could warrant consideration.
You should be sure, however, that you plan on living in the home for the life of the loan before you make the commitment.
Unlike a home equity loan or second mortgage, a reverse mortgage doesn’t require you to make payments on the withdrawn equity.
You also are not obligated to submit repayment unless you move out of your home, sell it, or fail to meet any other obligation outlined by your mortgage.
Is a Reverse Mortgage Right for You?
There are a few rigid guidelines that govern who is eligible for a reverse mortgage:
- You must be 62 years of age or older.
- You must own your home.
- You must have low or outstanding debt left on a low-interest mortgage.
You must be 62 years and older in order to qualify for a reverse mortgage and the property must be your main residence.
Check the balance on your mortgage because it must be low enough that the proceeds of your reverse mortgage will cover the remaining balance.
Your income or credit will not be taken into account because you will not be making payments on this mortgage.
If you have an open or pending bankruptcy, court approval may be required before moving forward with closing the reverse mortgage.
Reverse mortgages are only good for FHA standard property types, which are most 1-4 family residences and approved condos.
You can either go through the FHA/HUD for a reverse mortgage or a private financial institution.
Their program is called The Home Equity Conversion Mortgage. If you chose to go through the FHA for a reverse mortgage, you will be required to take a counseling course at no to low cost to you.
The course is to ensure that you fully understand the financial and legal responsibilities associated with getting a reverse mortgage.
It’s a great opportunity for you to ask any and all questions before signing anything.
Before borrowing, you would be required to get financial advice from a source approved by the U.S. Department of Housing and Urban Development (HUD).
How You Get Paid, How You Pay It Off
As with any loan, you will have to pay off your reverse mortgage. The difference is, you won’t be paying out of pocket.
Your payment to cover the loan — which you do not pay until you move out of the home or die — will come out of your home’s value, or home equity.
If you are looking to move to a smaller home or just receive an income infusion, a reverse mortgage could turn your current home into funds.
The amount you’ll be eligible to receive depends on where you live and how much your house is worth.
This reverse mortgage calculator from AARP can help you get an idea of how much you can borrow.
You can choose to receive funds from your reverse mortgage in a few ways: A lump sum, as monthly cash advance, as a line of credit, or a combination of the three.
If you die before moving out of the home on which you have a reverse mortgage, your debt will not be passed on to your heirs.
Instead, the money the sale of your house brings back on the market will be used to repay the loan.
Three factors play a role in determining your loan size: your age, the interest rates your select and the value of your home.
Lending limits vary on institution (and county), but federally cannot exceed $625,500.
If you have a high-valued home, you can access something that is called a “Jumbo” loan, allowing you to have a high loan amount than $625,500; however as of right now, the FHA will not be able to insure the loan and you may pay higher fees.
According to the HUD, you can receive your loan in five different ways:
- Tenure: equal monthly payments as long as at least one borrower lives and continues to occupy the property as a principal residence.
- Term: equal monthly payments for a fixed period of months selected.
- Line of Credit: unscheduled payments or in installments, at times and in an amount of your choosing until the line of credit is exhausted.
- Modified Tenure: combination of line of credit and scheduled monthly payments for as long as you remain in the home.
- Modified Term: combination of line of credit plus monthly payments for a fixed period of months selected by the borrower
Unlike a standard mortgage in which taxes and insurance are covered by an escrow fund, the homeowner pays out taxes and insurance for a reverse mortgage.
You must keep current in order to avoid defaulting on your reverse mortgage.
The money you receive from your reverse mortgage is not taxable and your public benefits (Social Security, Medicare, etc) will not be affected by it.
The loan ends when the borrower dies, moves away or sells the home.
At which point, the borrower (or heirs in the event the borrower is deceased) can refinance the home or turn it back over to the lender.
There is a year limit to make a decision.
First, you’ll need to pay mortgage insurance, in addition to standard homeowners’ charges such as repairs and taxes.
Second, there is a chance you will not receive all of your home equity through a mortgage if you die before full the loans are paid out.
The interest on a reverse mortgage is tax deductible, but only after the loan is fully repaid.
Finally, if you make too much money through your reverse mortgage, you could become ineligible for rewards such as Medicaid and supplemental Social Security benefits.
There is a high upfront cost associated with acquiring a reverse mortgage.
The upfront cost depends on the value of your home and a certain percentage is arranged.
For more information on the upfront cost you can contact the FHA.
Another criticism has been the interest rate.
If your mortgage is not paid off completely, you can use your reverse mortgage to pay the reminder (which is why you have to have acquired a certain amount of equity to qualify); however, the reverse mortgage interest is rolled into your mortgage payment.
If you aren’t meticulous, you could be paying more on your mortgage and less on what you needed the extra money for in the first place.
Other Home Equity Options
A reverse mortgage is not the only way to borrow money using the value of your home.
A Home Equity Line of Credit (HELOC) is a loan in which you use the value of your home as collateral.