Unlike a traditional home mortgage where you make monthly payments to a lender, a reverse mortgage pays you. Understanding the different types of reverse mortgages available, their requirements and how obtaining one works are all important parts of deciding if a reverse mortgage is right for you.
What Is a Reverse Mortgage?
A reverse mortgage is a specialized loan that converts a portion of your home's equity into cash. It stands in contrast to a traditional mortgage where you borrow money upfront to buy a house and then repay the lender in monthly installments. Reverse mortgages are typically most beneficial for older homeowners who have built up significant home equity.
People opt for reverse mortgages for various reasons, such as supplementing retirement income, covering health care expenses or simply improving their quality of life without the burden of monthly payments. With a reverse mortgage, your lender pays you in three ways:
Lump Sum: Opting for a lump sum means getting all the loan money at once. This method is ideal if you’re using the proceeds for major expenses.
Monthly Payments: With this choice, you receive monthly payouts from the lender. It's like having an additional, steady stream of income that can make your monthly budget more comfortable.
Line of Credit: A line of credit allows you to withdraw money as needed. This way, you only pull out what you need when you need it, and you'll only accrue interest on that amount.
Types of Reverse Mortgages
Like traditional home loans, several different types of reverse mortgages are available. Each type has its benefits and drawbacks. For example, one might offer larger loan amounts, while another could have fewer fees. Understanding your options can help you tailor the loan to your specific needs. The most common types of reverse mortgages are home equity conversion mortgages (HECM), proprietary reverse mortgages and single-purpose reverse mortgages.
Reverse Mortgage Type
What It Is
What Situation It Fits Best
Home Equity Conversion Mortgage (HECM)
Federally insured and the most popular option. It's highly regulated, offering a range of payment options and generally higher loan limits. You can use the funds for any purpose.
Ideal for those looking for multiple disbursement options and higher safety due to federal insurance. Especially suitable for those with higher-valued homes.
Proprietary Reverse Mortgage
These are private loans and not federally insured. They offer higher loan limits, particularly for high-value homes. However, they may come with higher fees and interest rates.
Well-suited for homeowners with high-value properties who may not qualify for an HECM and are seeking larger loan amounts.
Single Purpose Reverse Mortgage
States and local governments or non-profits usually offer these loans. They’re for a specified purpose like home repairs or property taxes and typically have lower costs.
Best for those with a specific, lender-approved need. It's often the most cost-effective but least flexible option.
Choosing the right type of reverse mortgage boils down to your individual needs. Whether you're seeking flexibility, a high loan amount or a loan for a specific purpose, understanding these options allows you to align the loan with your financial objectives.
Who Should Consider a Reverse Mortgage
Getting a reverse mortgage is a significant decision for several reasons. Your home is likely one of your most valuable assets, and a reverse mortgage taps into its equity. Its terms can also affect your financial stability and estate planning for years to come. It’s best to consider several factors to determine if this option is right for you.
The following questions can help you assess if a reverse mortgage is right for you:
Do You Plan on Staying in Your Home Long-Term? Staying put makes a reverse mortgage more favorable. Moving soon after acquiring a reverse mortgage can be financially counterproductive due to the burden of closing costs.
How's Your Financial Health? If you have other means to finance your retirement or meet immediate needs, those might be less costly in the long run than a reverse mortgage.
What Are Your Retirement Goals? Evaluate how a reverse mortgage fits into your larger financial picture. Will it help you achieve the lifestyle you're aiming for?
Are There Better Alternatives for You? Sometimes, a home equity loan or downsizing is a more efficient way to access cash. Compare all your options.
Understanding these factors can help you decide if a reverse mortgage aligns with your needs and future plans. If you're still on the fence, consult additional resources, like HUD-approved counselors or financial advisors, to help you make an informed decision.
A reverse mortgage calculator can help you better understand how much you could borrow. You'll need to input details like your home's value, expected interest rate and the years you plan to live there. After you input this information, you'll be given an estimated loan amount and interest rates. These numbers give you a clearer picture of how a reverse mortgage could fit into your financial plan. Just remember, these are estimates and actual amounts can vary.
How Reverse Mortgages Work
To make the most out of a reverse mortgage, you must be keenly aware of the fine print, especially regarding repayment. You won't make monthly payments with this loan type, but that doesn't mean you're off the hook forever. The reverse mortgage loan becomes due when you sell your home, move out for a prolonged period or pass away. Missing these points could potentially risk foreclosure, so it's crucial to know the conditions that trigger it, such as failing to pay property taxes or home insurance.
As for how much you can get on a reverse mortgage, several factors come into play. Your age, the value of your home and current interest rates all contribute to the loan amount you can secure. While it might be tempting to focus on the money coming in, understanding these terms and your obligations can help you navigate this financial path more confidently.
Reverse Mortgage Rates
Understanding reverse mortgage rates can help you save money in the long run. Reverse mortgages come in two rate structures: fixed-rate and adjustable-rate. A fixed-rate mortgage stays the same throughout the loan, making it easier to predict costs. An adjustable rate changes with market conditions, which can be a double-edged sword: you could save money or pay more if rates increase.
Higher rates mean a higher loan balance over time, affecting how much equity remains in your home. Market conditions like economic stability and inflation can influence reverse mortgage rates. For instance, in a booming economy, rates might rise; in a downturn, they could fall.
Some lenders offer options to lock in rates. Locking in a rate is smart if current rates are low and you expect them to rise. Understanding your options can help you choose a loan that fits your needs and keep costs manageable.
Cost of a Reverse Mortgage
Like any other loan, a reverse mortgage isn't free — it comes with various costs you'll want to understand upfront. Knowing these can help you make a better-informed decision, manage your expectations and even negotiate better terms.
Let's explore the various costs you may encounter:
Closing Costs: These are assorted costs you'll encounter at the loan's inception, including an origination fee — a one-time payment compensating the lender for processing your application. Additional costs may involve appraisal fees for assessing your home's market value, title search fees to ensure there are no existing liens on the property and inspection fees to check the home's condition. These costs can vary widely based on the location and specifics of your home.
Servicing Fees: The lender charges monthly fees for maintaining your account. Some of these maintenance activities include sending account statements, disbursing loan proceeds and ensuring that tax and insurance payments are up to date. While these fees are generally small, they can add up over time.
Mortgage Insurance Premiums: You're required to pay an upfront premium and ongoing annual premiums. These act as a safety net for both you and the lender. If you outlive the loan amount or if your home's value decreases, the insurer ensures that the loan will be paid off without causing a financial burden on you or your estate.
Reverse Mortgage Requirements
Lenders have some requirements that borrowers must meet before taking out a reverse mortgage. Understanding these requirements ahead of time can help you prepare for the application process. Some typical requirements include:
You must be at least 62 years old to qualify for a reverse mortgage. The age requirement ensures you have a reasonable amount of home equity built up, which is the basis of your loan amount.
Not all homes are eligible. Generally, the property must be your primary residence, and specific types of homes — like co-ops — often don't qualify.
A key requirement is having sufficient home equity. Typically, you need to own your home outright or have a small remaining mortgage balance. The more equity you have, the higher the loan amount you could be eligible for.
Property Condition and Maintenance Standards
Your home must meet federal housing standards. That means you'll likely undergo a property inspection. If your home requires repairs, those must be completed as part of the loan process.
Lenders will look at your income, assets and credit history to ensure you can afford ongoing property charges, like insurance and property taxes.
Before securing a Home Equity Conversion Mortgage (HECM), you're required to attend a financial counseling session with a counselor approved by the Department of Housing and Urban Development (HUD). This helps ensure you fully understand the product and its implications.
How to Apply for a Reverse Mortgage Loan
Applying for a reverse mortgage can take anywhere from 30 to 45 days. Knowing how to navigate the reverse mortgage application process can make the experience less daunting and even speed up how quickly you can access your funds. Being well-informed can also help you ask the right questions at the right time. Let's go through the steps you'll generally need to follow:
Start by identifying potential lenders. Banks, credit unions and specialized mortgage companies offer reverse mortgages. Compare their terms and customer reviews to shortlist the most promising options.
Attend Financial Counseling
For an HECM, you must attend financial counseling with a HUD-approved counselor to ensure you understand your responsibilities with this loan type.
Once you've selected a lender and undergone counseling, you'll fill out an application. Applications typically ask that you provide proof of age, property details and other relevant financial information.
Appraise Your Home
An appraiser will evaluate your home to determine its current market value, which helps establish how much you can borrow.
Lender Application Review
The lender will review your application and the appraisal report. They'll also perform a financial assessment to ensure you can afford property taxes and other obligations.
Finalize Loan Terms
After your application is approved, you'll attend a closing meeting. You'll finalize the loan terms, sign the necessary paperwork and set up how you'll receive the funds.
Receive Your Funds
You'll receive the funds based on the payout option you chose: lump sum, monthly payments or line of credit.
Alternatives to Reverse Mortgages
Understanding the alternatives to a reverse mortgage allows you to make the best decision for your financial future. For instance, if you plan to move soon, a reverse mortgage. Knowing your options can open up different paths to achieve your financial goals.
Selling Your Home
To determine the best option for you, it's important that you consider your repayment capacity, how you plan to use the funds and if you intend to stay in your home long-term. Alternatives like home equity loans or HELOCs could be more fitting if you have a specific, short-term need and can manage regular payments.
Frequently Asked Questions About Reverse Mortgages
Reverse mortgages aren’t the most common financial products in the market, so having questions about them is common. MoneyGeek gathered the inquiries most borrowers ask to provide you with information to help you make sounder financial decisions.
Expert Advice on Reverse Mortgage
MoneyGeek consulted with an industry expert to explore more about reverse mortgages, including examining their benefits and drawbacks, deciding if they're right for you and avoiding scams.
- What are the pros and cons of a reverse mortgage?
- How do you decide if a reverse mortgage is right for you?
- How do you avoid reverse mortgage scams?
- What happens if I have a reverse mortgage and I have to move to a nursing home?
Reverse Mortgage Advisor at Equity Smart Home Loans
About Christopher Boston