The
Ups and Downs of Reverse Mortgages
If you are 62 years of age or
older and find yourself in a “house-rich, cash-poor” position, a reverse
mortgage could allow you to supplement your monthly income by a considerable
amount. Because homeowners need only equity, and not income, to qualify for a
reverse mortgage, these loans can seem too good to be true. You should be very
cautious before you jumping on the reverse-mortgage bandwagon. While reverse
mortgages can indeed offer solutions to a number of problems, it’s important
that you also know the negatives before you sign on any dotted lines. Below
you’ll find several things to think about so you don’t make a costly mistake
with your valuable home equity.
What is a Reverse Mortgage?
A reverse mortgage is
basically a loan that works backwards. You borrow against your home’s value
and get the proceeds in the form of regular monthly payments, as a lump sum, a
line of credit, or in some combination of these options. The more equity you
have, the more cash you can borrow. And the older you are, the larger the amount
you can borrow. If you have any debt against your home, you must pay it off
before getting a reverse mortgage. One way to do this is by using an immediate
cash advance from the reverse mortgage to bring the balance owed down to zero.
As a general rule, your
reverse mortgage loan does not have to be paid off for as long as you live in
your home. The loan comes due only when you eventually sell your home (or when
your home is sold after you die). To protect owners and their heirs, the debt
can never exceed the value of the home, even if the borrower collects more than
that amount over the years.
Know Which Distribution Plan Works Best for You
Reverse mortgages offer
borrowers several different ways to take the loan proceeds: as an immediate lump
sum of cash at closing; as a credit-line account, which allows the borrower to
take cash advances throughout the life of the loan until it is used up; or as a
monthly cash advance. Monthly cash advances can either be paid out within an
elected number of months, or for as long as the borrower lives in his or her
home; or the loan can be used to buy an annuity, which allows the borrower to
receive monthly checks no matter where he or she lives. It is also possible to
choose some combination of these options.
A word of caution may be
appropriate here: while all this flexibility looks great at first glance, each
distribution option has a different tradeoff. You also should know that the
total cash amount of the loan could vary substantially as a result of how you
elect to receive payment. Therefore, you need to weigh all of your needs very
carefully and calculate exactly how much each option will cost you.
What Will a Reverse Mortgage Cost You?
The specific cost items vary
from one program to another. Many of them are of the same type found on
“forward” mortgages: interest charges, origination fees, and whatever
third-party closing costs (title search and insurance, surveys, inspections,
recording fees, mortgage taxes) are required in your area. Other types of costs
can be more unique to reverse mortgages, trickier for the novice to understand
— and they can be enormous.
Federal law now requires that
reverse mortgage lenders disclose the total annual loan cost (TALC) to
prospective borrowers. However, not only is it possible for the TALC rate on one
plan to double in a single day, or be three times greater than the rate on
another plan, but these disclosures may not be at all clear.
Weigh Your Options
With so many variables and
possible pitfalls for the unsuspecting to fall prey to, the Department of
Housing and Urban Development (HUD) now requires prospective borrowers to meet
with HUD-approved counselors before taking out a loan. Besides the questions you
pull together for this counselor, there are a few basic questions you need to
ask yourself.
First, before you decide to go
with a reverse mortgage, consider the worth of an alternative: selling your home
and moving. Try to evaluate how much money you could get by selling your home,
along with how much it would cost you to buy (and maintain) or rent a new one.
Don’t forget to factor in the amount you think you could safely earn on sale
proceeds not used for a new home. Maybe it makes more sense for you to go this
route.
Remember that the more home equity “savings”
you use now, the less you’ll have later. Not all reverse mortgage borrowers
end up living in their homes for the rest of their lives. Some who expect to
remain there change their minds. Others face later health problems that require
a move. If you were to have to sell and move some day, how much equity would you
have left?