You build equity in your home every time you make a payment on your mortgage. With a reverse mortgage, you use your home’s equity to access immediate funds. If you're considering a reverse mortgage loan, make sure you understand all of the options available and the risks involved.
What is a reverse mortgage?
A reverse mortgage is when you receive payments from your mortgage lender instead of making monthly payments to them. By taking out a reverse mortgage, you can access either a lump sum or installments of funds as a loan against the equity you've built in your home. You'll still have to keep up with property taxes and mortgage insurance premiums.
Unlike other types of home equity loans, a reverse mortgage doesn't require you to pay off the loan until you move out of the house permanently or die, in which case your family or estate is responsible for the loan. The borrower's family often sell the house to pay back the loan if money is still owed after the borrower passes, but they may choose to pay it back themselves if they want to keep the house in the family.
How does a reverse mortgage work?
A reverse mortgage is similar to a home equity loan in that it requires that you use your home as collateral. You keep the title to your house when you take out a reverse mortgage, but you're forfeiting the equity you've already gained in your home in exchange for more immediate funds or a line of credit.
The amount you can borrow with a reverse mortgage varies based on the market value of your home, your creditworthiness, current interest rates and the type of reverse mortgage you select. As with a traditional mortgage, you're responsible for paying a lender's origination fees and other third-party costs associated with inspections and appraisals before you can close on a reverse mortgage. You can receive reverse mortgage funds as a lump sum, short-term recurring payments or long-term recurring payments.
- Lump sum payment: The borrower receives one check with the entire loan payment
- Short-term recurring loan: The borrower receives a monthly check for a specified period of time
- Long-term recurring loan: The borrower receives a monthly payment until they move out of the house or passes away
No matter how you access reverse mortgage funds, a reverse mortgage won't affect your total income because Social Security and Medicare consider the funds a loan. You won't be responsible for paying the loan back as long as you're living in the residence, but you will be required to keep up with property taxes and mortgage insurance premiums or your lender's servicing fees. Generally, as long as the borrower keeps up with maintaining the home and property taxes, the reverse mortgage loan is only due for repayment once the borrower moves out or dies.
If the borrower dies while living in the home, their estate is liable for the cost of repayment. Under certain conditions, such as the borrower renting out part of the home, the loan can become repayable while a borrower is still living in it.
If you're married, your spouse can keep living in your home after you die if you include them on the reverse mortgage documents as a co-borrower. They will be required to pay property taxes and mortgage insurance premiums as long as they stay in the house. If your spouse was not listed as a co-borrower on the reverse mortgage, they may have to repay the loan right after you pass.
There are some exceptions, however, for eligible non-borrowing spouses to remain in the home after the borrower passes without repaying the loan. HUD has a list of qualifications you’ll want to review before setting up your reverse mortgage, as even a non-borrowing spouse must be listed in your reverse mortgage paperwork if you wish for them to remain in the home without the financial burden of repaying the loan in full.
Reverse mortgage requirements
Regulations and rules for reverse mortgages are more strict now than they were a few years ago. Previously, some lenders just wanted to know your age and how much equity you had in your home. These days, reverse mortgage eligibility is still contingent upon your age and how much equity you've built, but lenders are now required to evaluate each applicant's financial situation more fully.
- Reverse mortgage age requirement: The minimum age to be eligible for a reverse mortgage is 62 years old. If you're married, lenders will consider the youngest borrower's age listed on the loan to confirm minimum age eligibility requirements. If your spouse is younger than 62, you could still qualify by taking them off the reverse mortgage paperwork, but there's a good chance they will lose your house if you die first.
- Reverse mortgage ownership status requirements: You must have enough equity built in the home to make the loan worth it to you and the lender. Generally, this requires you to own your house free and clear or have only a relatively small amount remaining on your mortgage balance.
- Reverse mortgage property requirements: Single-family houses, including manufactured homes, are eligible for reverse mortgages. Multiple-unit homes are eligible as long as the borrower lives in one of the units. The property must adhere to FHA standards and flood requirements.
- Reverse mortgage occupancy requirements: The home you take out a reverse mortgage on must be your primary residence.
- Reverse mortgage credit requirements: There's no hard minimum credit score to qualify for a reverse mortgage across lenders. Credit requirements for a reverse mortgage are far less strict than traditional mortgages, but you'll still have to prove to your lender that you intend to make right on the loan. For example, you'll be disqualified for a reverse mortgage if you are currently delinquent on another federal debt.
- Reverse mortgage financing fees: You're required to pay your lender's various financing fees. The reverse mortgage lender also charges financing fees based on the borrower's home equity and the costs of providing the loan. Borrowers can wrap most of these fees into the balance of the reverse mortgage.
- Reverse mortgage financial counseling: Modern reverse mortgage guidelines also stipulate that you meet with a HUD-approved reverse mortgage counseling agency. The agency helps you determine if a reverse mortgage is a feasible loan option for you and ensure that you fully understand how your reverse mortgage interest rate accumulates over the lifetime of the loan.
Reverse mortgage pros and cons
As with any mortgage or loan product, it's important to fully understand the benefits and disadvantages before adding your signature to any paperwork. On the plus side, reverse mortgages can give you immediate access to funds and come with flexible repayment terms. But they can also be difficult to understand, and they come with risks to your finances and assets.
Reverse mortgage benefits
- Access to funds: Some people take out a reverse mortgage to take care of an immediate financial need, while others consider a reverse mortgage a strategic tool in their retirement planning. Reverse mortgage funds can be used for any purpose. You can use the extra money to supplement a fixed income, extend savings after retirement, cover health expenses, pay off another debt or anything else to help you age in place more comfortably.
- Flexible terms and tenure options: You can decide if you want to receive funds as a lump sum, monthly payments, a line of credit or a combination of several options. Reverse mortgage interest rates can be fixed or variable depending on how you receive payment. As with other mortgage products, you'll accrue interest year over year. When the loan is due, your estate will be responsible for paying off the loan plus interest on the loan.
- Children aren't financially liable to repay the loan: A reverse mortgage is a non-recourse loan, meaning that borrowers can't owe more than the house is worth. This means that if you have children, they will inherit your loan repayment obligations if they inherit your estate but will not be held personally or financially liable for the loan balance above the value of the home. Most of the time, the surviving family sells the home to pay back the loan, so keep in that in mind if you want to keep your house in the family.
- Doesn't require monthly mortgage payments: Repayments only kick in if the borrower permanently moves or fails to keep up with maintaining the house's taxes and codes. Just like any other type of home equity loan, you must secure your reverse mortgage with your house. You typically aren't responsible for paying the reverse mortgage loan back in your lifetime as long as you're able to keep up with property taxes and mortgage insurance premiums.
Reverse mortgage disadvantages
- High upfront costs: Reverse mortgage fees can add up quickly. You're responsible for paying appraisal costs, title searches and other inspections, plus you’ll pay an origination fee to the lender and a servicing fee to your lender or agent. The amount you must pay varies by your location and other factors.
- Mortgage insurance premiums: Borrowers must pay for mortgage insurance throughout the life of the loan to ensure the lender will be repaid if the borrower defaults on the loan. If you take out a HECM loan, a type of reverse mortgage backed by the federal government, you'll also be responsible for paying off a mortgage insurance premium, or MIP, when the loan repayment is due. MIP accumulates at 0.5% of the loan's outstanding balance every year.
- Limited cancellation rights: Borrowers have limited rights to cancel a reverse mortgage once they enter it. In most cases, borrowers have three business days to cancel a loan; many lenders count Saturday as one of these three days. Most lenders provide a form borrowers can fill out to cancel the loan, or borrowers can write a letter requesting the loan be canceled.
- Can be complicated: Even among legitimate lenders, terms and conditions can be confusing to navigate. For example, many lenders include clauses in their reverse mortgages that require full payment when the borrower permanently moves out of the residence. A medical emergency that requires long-term, ongoing treatment can trigger this "permanent move" clause, which would then trigger repayment obligations.
Bottom line: Is a reverse mortgage a good idea?
A reverse mortgage might be a good idea if you need access to funds, meet all the eligibility requirements and accept all the risks involved. The loan amount that can be borrowed through a reverse mortgage varies based on your age, the appraised value of the home and other factors. Almost anyone over the age of 62 who owns their home can qualify for a reverse mortgage, but that doesn't mean that they should.
Talk to a financial advisor before signing any paperwork — there are substantial risks involved in reverse mortgages, including foreclosure.
If you understand the benefits and disadvantages of a reverse mortgage and think it's the best option for you and your family, you should compare the best reverse mortgage lenders to ensure you don't pay more than you have to in origination, closing and service fees.
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