A reverse mortgage is a loan for homeowners 62 and older that uses the home’s equity as collateral. What makes it different from conventional loans is that there are generally no payments and it doesn't have to be repaid until the last surviving homeowner permanently moves out of the property or dies.
A lot of seniors are attracted to a reverse mortgage, also known as a Home Equity Conversion Mortgage (HECM), because it allows them to stop making payments, and instead actually makes a monthly payment to them or provides a lump sum of cash.
It's also easier to get than a conventional loan. Credit scores, for example, aren't a factor, making it attractive to seniors who have a spotty credit history or very little income.
Though sponsored by the U.S. government, reverse mortgages can be expensive, counter-productive to a homeowner's long-term goals and can sometimes contain dangerous pitfalls.
We learned of one such pitfall recently when Lorna, a New Hampshire real estate broker, relayed the story of one of her clients -- a recent widow who was about to lose her home because her husband took out a reverse mortgage and then died shortly thereafter.
“My client at the time was not 62 so could not go on the mortgage,” Lorna told ConsumerAffairs.
So the reverse mortgage was in her husband's name only, even though he owned the property jointly with his wife. Or at least he did at one time.
In order to receive a HECM, both homeowners must be at least 62. Since Lorna's client was not 62 at the time her husband took out the HECM, she was either never on, or was removed from, the property deed. This is a key point to what happened next.
Losing her home
The reverse mortgage lender has now moved to sell the property to pay off the loan, just as it would whenever any reverse mortgage borrower dies. But Lorna's client still lives in the house and would like to continue doing so.
“She is now old enough to refinance into her own reverse mortgage to pay off her husband’s,” Lorna said. “However, the lender has issued her a 30 day due and payable notice.”
That's because, as far as the lender is concerned, Lorna's client doesn't own the property. She can't do a reverse mortgage on a home she doesn't own.
Lorna's client apparently falls just outside the protection of a new reverse mortgage rule that went into effect in the middle of last year. Under the old rules, the HECM would be due after the departure or death of the last-named HECM borrower, or if the home is sold, or if the borrower fails to pay taxes and insurance or otherwise fails to comply with the loan terms.
The non-borrowing spouse then had to refinance the loan or sell the home to pay back the loan. If they could neither sell or refinance, they often faced losing their home, like Lorna's client.
The rule has changed so that on loans issued on or after August 4, 2014, a non-borrowing spouse may remain in their home for a certain “deferral period” even after the death of their spouse whose name was on the mortgage.
The conditions are that the non-borrowing spouse must establish a legal right to remain in the home and take responsibility for the obligations of the loan signed for by the original borrowing spouse.
But establishing a legal right may be difficult if your name is not on the deed.
The lesson here is, if a couple has purchased a home together, one spouse should never voluntarily remove their name from the deed, just so the other can qualify for a reverse mortgage.
A home equity loan may be better
When one spouse is under age 62 a much better option for tapping the equity in a house may be a home equity line of credit, offered by many community banks. These loans are secured by the equity in a home and often have very low interest rates.
There are no age requirements so both spouses can be on the mortgage. If one spouse dies it does not trigger an immediate need to sell the property. The home equity loan is paid off, along with the first mortgage, whenever the property is sold.
According to the Federal Reserve, many home equity loans set a fixed period during which you can borrow money, such as 10 years. At the end of this “draw period,” you may be allowed to renew the credit line.
However, some plans may require payment in full of any outstanding balance at the end of the period.
With a typical reverse mortgage, time isn't the trigger – death or inability to live in the house is. The estate has approximately 6 months to repay the balance of the reverse mortgage or sell the home to pay off the balance.
Any remaining equity is inherited by the estate. The estate is not liable if the home sells for less than the balance of the reverse mortgage, an attractive feature not offered by equity lines or other conventional loans.
A reverse mortgage may, in fact, be a good option for an older couple that wants to remain in their home until they die or are no longer able to do so.
But it's probably a bad idea for a couple in their early 60s. It most definitely is a high-risk option if one spouse is under age 62.