Pros and Cons of Reverse Mortgages

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ByChristopher Boston
Edited byCasie McCoskey

Updated: October 18, 2023

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A reverse mortgage is a loan that lets homeowners age 62 and older convert some of their home equity into cash. It pays you, unlike traditional mortgages, where you make payments to a lender. It can be a lifesaver, especially for retirees who want a more comfortable life or need to pay off debts, but it's not a decision to rush into. Carefully weighing the pros and cons of a reverse mortgage will help you avoid ending up with unexpected costs or putting your home at risk. So, while a reverse mortgage can offer financial freedom, it's helpful to consider the other financial avenues you can take.

What Is a Reverse Mortgage?

A reverse mortgage is a unique loan that allows homeowners who are 62 or older to convert some of their home equity into cash. Unlike a traditional mortgage, where you pay the bank, a reverse mortgage pays you. It benefits retirees or those with limited income who want to boost their finances without moving out of their homes.

You usually need to own your home outright or have a low mortgage balance. You must also use it as your primary residence. Knowing these eligibility criteria can help determine if this option fits you well. You can receive the funds in various ways, either as a lump sum, monthly payments or a line of credit. Consider your needs — a lump sum might be best if you have immediate significant expenses. However, monthly payments could be the way to go if you need a regular income boost.

You're not required to repay the loan as long as you live in the home. However, interest does accumulate over time, so the total amount tends to grow. The loan becomes due in the event of your passing, and usually, selling the home covers it. Understanding these aspects can help you make an informed decision about a reverse mortgage.

Pros of a Reverse Mortgage

Every financial decision comes with its own advantages and drawbacks, and a reverse mortgage is no different. Understanding them can guide you in making a choice that suits your needs. One benefit is the financial freedom it offers, giving you the cash you need for daily living or unexpected expenses. Another is the ability to stay home while enjoying these advantages.

Allows You to Stay in Your Home

One of the standout benefits of a reverse mortgage is that it lets you stay in your home. Aging in place brings comfort, as there's no need to adjust to a new environment or downsize your possessions. You can keep living as you always have, surrounded by familiar rooms and favorite things, giving you emotional security.

Staying put in your home makes family visits a breeze, allowing you to maintain those critical connections. It also lets you keep ties with your community, like staying close to your local church, community center or favorite park. Overall, a reverse mortgage can help you live more comfortably and happily right where you are.

Helps Secure Your Retirement

One beneficial aspect of a reverse mortgage is you don't have to dip into your other retirement accounts, like a 401(k) or Individual Retirement Account (IRA). A reverse mortgage acts like a safety net by giving you a financial cushion. This can be invaluable for unexpected costs like in-home care or medical expenses. It also adds flexibility to your retirement planning. You can adapt more easily to changing circumstances without worrying about financial stability. Overall, a reverse mortgage can help relieve some of the stress of your golden years.

Provides Financial Freedom

Financial freedom is one of the game-changing benefits of a reverse mortgage. You can immediately boost your current income by converting some of your home's value into cash. The extra money opens doors, whether you've always dreamed of traveling the world, taking up a new hobby or both. It also serves as an emergency fund, ready for unexpected life events requiring quick financial action.

If you're savvy, you can even use it to invest in opportunities that generate more income. It could mean putting money into the stock market, real estate or even a small business venture. These can yield high returns, turning your initial lump sum into a growing asset. A reverse mortgage can serve as a stepping stone to multiple income streams, further enhancing your financial freedom. This economic boost allows you to be more generous, whether helping out family or donating to a favorite charity, enabling you to live more on your terms.

Helps Pay Off Existing Debts

Getting a reverse mortgage can be a game-changer if existing debts weigh you down. It gives you the ability to pay off high-interest loans or credit card balances, saving you a lot of money in the long run. Consolidating debts means you'll have fewer payments to worry about each month, making your financial life more straightforward. It could also boost your credit score since you're effectively reducing your debt load. Another upside is the peace of mind that comes from being less burdened by debt. With those debts out of the way, you'll free up more of your income for other expenses, including medical bills or home repairs.

No Monthly Payments

A reverse mortgage stands out for its no-monthly payment feature, offering a unique advantage in managing your finances. The loan is structured for you to repay it under specific conditions: when you sell the home, move out or pass away. It's an advantage for your cash flow, especially if you're on a fixed income like many retirees. You'll experience more financial flexibility, allowing you to use your money in ways that benefit you more. This feature allows you to make choices that enhance your quality of life, whether that means saving more, investing in things that matter or simply enjoying a stress-free retirement.

No Tax Liability

An often overlooked advantage of a reverse mortgage is that the money you receive is generally tax-free, according to IRS Guidelines. That means every dollar you get has its full spending power, unlike other income or gains subject to taxation. It gives you a financial boost without giving a cut to Uncle Sam.

However, tax liability could be an issue if you invest these funds in a way that generates income. In those cases, the earnings may be taxable. That said, reverse mortgages still provide a distinct advantage over other financial windfalls like lottery winnings, which are often heavily taxed. With a reverse mortgage, you get more bang for your buck.

Safety Even if Your Balance Exceeds Your Home's Value

With a reverse mortgage, you don't have to sweat about your home's value dipping below your loan balance, thanks to the "non-recourse" feature. That means the loan will never exceed the fair market value of your home, alleviating any concern you may have about fluctuating housing markets and leaving you free to enjoy your retirement without that extra worry. Federal protections further back you up, ensuring you won't face any unexpected surprises. And if you decide to sell your home? The sale covers the mortgage amount, and if there's any excess, it's yours to keep. So, even in a shaky market, a reverse mortgage offers a stable, worry-free option to support your financial plans.

Offers Options to Heirs

A reverse mortgage offers your heirs some flexible choices. If they want to keep the family home, they can do just that by paying off the remaining mortgage balance. But that's not their only option — they could also refinance the loan into a traditional mortgage, effectively taking over the home while still managing the debt in a way that makes sense for them. Selling the house is another route; if the sale price is higher than the mortgage amount owed, that surplus goes straight into their pockets. When making these decisions after your passing, heirs generally have about six months, giving them time to assess their best course of action. A reverse mortgage offers you financial security while leaving room for your heirs to make decisions that suit them best.

Cons of a Reverse Mortgage

While there are definite perks to getting a reverse mortgage, considering its downsides is just as relevant. For example, you'll see your home equity decrease over time, which means less value left in your property for your heirs. You may also face high fees and closing costs. By understanding the pros and cons, you can make a decision that genuinely fits your needs and lifestyle. Let's explore these drawbacks in more detail to give you a fuller understanding of what to expect.

Costs and Fees

While a reverse mortgage comes with some perks, don't forget the costs that tag along. Understanding these can help you get a clear picture:

  • Origination Fees: These are the one-time fees for starting your reverse mortgage. They cover the lender's initial expenses and can vary depending on the lender and the loan size.
  • Closing Costs: These cover administrative tasks like title searches, home appraisals and legal fees. They're essential to finalize the mortgage and can be a substantial part of the initial cost.
  • Insurance Premiums: This is a mandatory charge to protect the lender. This insurance covers the difference if your home's value falls below the loan amount.
  • Service Fees: These are monthly charges for managing your loan, such as account maintenance and disbursement of funds.

When weighing your options, consider how these costs stack up against traditional loans or selling your home outright. Often, a reverse mortgage may carry higher fees. By understanding these costs, you'll be better equipped to decide if a reverse mortgage is the right fit for you.

Complexity

The complexity of reverse mortgages can be a real drawback. For starters, there's a learning curve just to grasp the basics. It can get confusing quickly with terms and conditions that differ from regular mortgages. Misunderstandings happen easily, and myths about the process can make things worse. Financial advising is hugely beneficial in helping you avoid red flags or pitfalls like hidden fees.

Complexity can also mess with your decision-making. When things are hard to understand, mistakes happen, and you could end up with a financial burden instead of a financial boon. While a reverse mortgage might look appealing, it's crucial to dig deep and understand all its aspects.

Effects on Retirement Benefits

Getting a reverse mortgage might sound great, but it can affect other financial help you might be getting. For instance, the extra income could mess with your Medicaid eligibility. Medicaid is sensitive to how much money you have, and a reverse mortgage could put you over their limits. It doesn't translate to an automatic disqualification, but the extra income is a factor Medicaid will consider. How you receive your reverse mortgage payouts might also influence your Medicaid status.

The same goes for Supplemental Security Income (SSI), a program aimed at helping elderly, blind or disabled individuals with little or no income. The program sets guidelines on income and assets, and any extra income can influence whether you're eligible for SSI or the amount you can receive. If you take your reverse mortgage proceeds as a lump sum, Social Security may view it as an asset that affects your SSI benefits. Even if you spend it on necessary expenses immediately, you must be careful about how and when you do so.

Just like with Medicaid, the structure of your reverse mortgage payouts matters. Monthly payments may also count as income, reducing your SSI benefits. It's best to consult with financial advisors. They can help you understand how to tailor your reverse mortgage to minimize its impact on your SSI benefits or Medicaid eligibility, giving you a more comprehensive view of your financial options.

Loss of Equity

A reverse mortgage allows you to tap into your home's equity, but the part you own shrinks as you continue to take out cash against your home's value. It can have implications for your long-term financial plans. For instance, if you wanted to leverage your home's equity in later years for a significant financial move, like downsizing or another investment, you'd have fewer resources to do so. Lower equity also impacts your overall net worth, which could affect your financial stability and options in the long run.

You limit your financial flexibility with less equity in your home. It could be a roadblock if you find yourself in a situation where you need substantial funds quickly. Before you decide on a reverse mortgage, it's worth considering how the reduced equity could affect your future choices.

Possibility of Foreclosure

While a reverse mortgage offers benefits, it can also come with a risk of foreclosure if you don't meet certain conditions. For example, you still need to keep up with property taxes and homeowners insurance. If you fall behind, the lender can start foreclosure proceedings. Keeping your home in good condition is also crucial since neglecting repairs may violate your loan terms.

If foreclosure starts, you'll go through a legal process that could result in losing your home. A foreclosure impacts your credit score and leaves you without the home's financial cushion, adding to your stress. It may even affect your heirs, who won't have the option to keep or sell the house to settle the reverse mortgage balance. Before opting for a reverse mortgage, weigh these foreclosure risks carefully and plan how you'll meet all requirements to keep your home.

Mortgage Interest Deduction Takes Time

One thing to keep in mind is that a reverse mortgage doesn't let you deduct mortgage interest from your taxes right away. Unlike a traditional mortgage, where interest deductions are a yearly benefit, you can only claim this deduction when you pay off the loan. That makes a difference in your tax planning because you miss out on potential yearly tax reductions.

If you're considering a reverse mortgage, you'll need to keep detailed records of the interest accrued on your loan for settling the account and claiming your deduction. Being aware of this can help you plan your taxes more effectively, but it's a definite downside compared to the tax benefits of traditional mortgages.

Less Inheritance for Heirs

If you're thinking about a reverse mortgage, consider its impact on your heirs. The loan balance grows over time due to interest, which reduces what you can leave behind. If your heirs want to keep the home, they'll need to pay off this larger loan, affecting the overall value of your estate.

For heirs, options include selling the home to cover the loan or refinancing it, making financial planning more challenging for your family. To make sure everyone's on the same page, have open and honest talks with your heirs about what a reverse mortgage means for them. Knowing the implications helps you and your loved ones make better decisions about the family's financial future.

Effect on Non-Borrowing Spouses

If you're married and considering a reverse mortgage, it's helpful to consider how it could affect a non-borrowing spouse (a spouse who's not listed on the loan). If the borrowing spouse dies, the loan balance becomes due. That might mean the non-borrowing spouse can only stay in the home if they can pay off the loan. Some federal rules offer protection, but these won't guarantee that your spouse can keep the home.

Legal issues like marital rights to the property also come into play. Solutions might include refinancing the loan or selling the home, but these options bring their own challenges. Knowing these drawbacks can help you and your spouse decide whether a reverse mortgage is the right move for you.

Who Should Get a Reverse Mortgage

Taking the time to evaluate your current situation is a smart move before diving into a reverse mortgage. A hasty decision could lead you down a road you might regret, resulting in financial instability and added stress. Here are some questions you should ask yourself to make an informed choice.

  • Is your home's value continuously increasing? If your home's value is rising, a reverse mortgage can offer a bigger pool of equity to tap into. That could make repaying the loan balance easier, either by selling the home or through other means. Meanwhile, a stagnant or declining home value could put you in a financial pinch.

  • Do you plan to stay in the home long-term? A reverse mortgage is generally a good option for those who intend to live in their home for many years. You can enjoy the additional income without worrying about repayment for a long time. Other financial options might be more suitable if you're considering moving or downsizing soon.

  • Can you cover ongoing home costs? Even with a reverse mortgage, you're still on the hook for property taxes, insurance and regular maintenance. Evaluate your budget carefully to ensure you can meet these ongoing expenses. Otherwise, you risk foreclosure.

  • Do other people live with you? If you have adult children, a spouse or friends living in the home, their living situation could be affected if you can't repay the loan or pass away. They might have to move out unless they can pay the loan amount.

  • Do you have any health challenges? Health conditions that might require you to move out for assisted living or long-term care can make a reverse mortgage less viable. The loan becomes due if you no longer use the home as your primary residence, which might necessitate selling the home under less-than-ideal conditions.

By asking yourself these questions and understanding the implications, you can assess the pros and cons of a reverse mortgage for your situation. It's all about making a choice that aligns well with your circumstances.

Alternatives to Reverse Mortgages

After weighing the pros and cons and closely looking at your current situation, you might find that a reverse mortgage isn't the best fit for you — and that's okay. Knowing your alternatives can give you the freedom to pick a financial solution that's more in line with your needs. Let's explore these options:

  • Refinancing Current Mortgage: By refinancing, you can secure a lower interest rate or change the loan term, saving you money over the life of the loan. It could significantly reduce your monthly payments if you've built up substantial equity and interest rates have dropped.
  • Home Equity Loan: Also known as a "second mortgage," a home equity loan offers a fixed rate and a lump sum of money upfront. You repay the loan over time. This option works well for one-time, significant expenses like a home renovation.
  • Home Equity Line of Credit (HELOC): This revolving line of credit allows you to borrow as needed, up to a certain limit. Unlike a home equity loan, you only pay interest on the borrowed amount. This choice is ideal for ongoing expenses or as an emergency fund.
  • Cash-Out Refinance: You get a new mortgage that's larger than your existing one, and you get the difference in cash. It's beneficial if you've got multiple high-interest debts to consolidate or a big project that requires hefty funding.
  • Downsizing: Selling your existing home to buy a smaller one could significantly reduce your living costs. It can be a solid option if you're looking to eliminate your mortgage payment and reduce maintenance costs.
  • Selling Your Home: If your home has appreciated in value, selling could provide a sizeable lump sum. It can be an excellent move if you're looking to relocate or need quick access to your equity.
  • Renting Out Your Home: Renting your property can provide a steady monthly income. You'll need to consider landlord responsibilities, but avoiding a new loan could make this worthwhile.
  • Personal Loans: These loans don't require collateral but often come with higher interest rates. This option could be fitting if you need funds quickly and don't want to use your home as collateral.
  • Annuities: These insurance products turn a lump sum payment into regular income over a specified period. They can be complex but might suit you if you want a long-term income solution and have the cash to invest upfront.

If a reverse mortgage doesn't align with your financial goals, remember you have other avenues to explore. Each alternative comes with its own considerations, so take your time to find what suits you best.

Frequently Asked Questions About the Pros and Cons of Reverse Mortgages

When considering reverse mortgages, you may have questions beyond weighing the pros and cons. We answered common queries to give you a more in-depth understanding of what a reverse mortgage involves and its implications for your financial life.

A reverse mortgage is a loan that allows homeowners age 62 and older to convert a portion of their home equity into cash. Unlike a traditional mortgage, you don't make monthly payments. Instead, the loan is repaid when you sell the home, move out, or pass away.

Reverse mortgages often work well for people with substantial home equity but limited income. It can provide financial flexibility for homeowners who wish to stay in their homes for the long term and have no plans to leave significant assets to their heirs.

The minimum age to qualify is 62. However, the older you are, the more money you'll likely get from the loan because it depends partly on your life expectancy. It often makes sense to delay taking a reverse mortgage as long as possible to maximize the loan amount.

Yes, reverse mortgages do accrue interest, although you don't have to pay it on a monthly basis. The interest is added to the loan balance and becomes due when you sell the house, move out or pass away.

Repayment starts when the last surviving borrower sells the home, moves out or passes away. If the home remains your primary residence and you meet all the loan terms, like paying property taxes and insurance, there's no requirement for monthly payments.

Walking away from a reverse mortgage means you're choosing to default. It would likely result in the sale of your home to pay off the loan and could negatively impact your credit score.

Yes, you typically have a "right of rescission" period of three business days to cancel the transaction without penalty.

Your heirs will inherit the home and the loan balance. They can repay the loan and keep the house or sell it to pay off the loan. They'll likely need to sell the house to cover the loan balance if they choose not to repay.

Federal insurance will cover the difference if the loan balance exceeds the home's value. Your heirs or estate are not responsible for paying the deficit.

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About Christopher Boston


Christopher Boston headshot

Christopher (Croix) Boston was the Head of Loans content at MoneyGeek, with over five years of experience researching higher education, mortgage and personal loans.

Boston has a bachelor's degree from the Seattle Pacific University. They pride themselves in using their skills and experience to create quality content that helps people save and spend efficiently.


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