A reverse mortgage is a special type of home equity loan that is available to senior citizens of 62 year and above. Unlike the conventional mortgage loans where you are given a loan upfront and you start and continue to pay monthly instalments over the loan period, the reverse is in the case for reverse mortgage. In the case of reverse mortgage, you don’t need to pay b the home. Instead of you paying back the loan, it is your lender that pays you based on your payment option while the interest accrues on the loan. However, reverse mortgage is not for everybody. To be eligible for the loan, you must be a homeowner aged 62 years and above. Being a homeowner is not enough. You must have built enough equity on the home before you can qualify for reverse mortgage. Also, you must make the home your primary residence. If you know you don’t plan to stay long in the house, reverse mortgage may not be suitable for you. The reason is that, the loan will become due for repayment immediately you die or move out of the home. However, if your co-borrower or eligible spouse remains in the house, the loan will not become due until the person dies or moves out of the home..
Homeowners resolve to reverse mortgage in order to have access to flow of income which can allow them live comfortably in their retirement age. Before any lender can give you reverse mortgage, they will like to carry out the assessment of your ability to pay your monthly expenses. That is why it is not good to rely solely on the proceeds from the loan for the purpose of meeting your expenses. It is advisable to have at least one other source of income. Even thoughother source of income. Even though you will not need to pay taxes on the money you receive from your lender, you will be responsible for the payment of the loan closing costs, property taxes, insurance premium, utilities and maintenance costs. If the lender finds out that you don’t pay these expenses, you may be required to pay back the loan immediately.
Reverse mortgage loan is somehow complex to understand. That is why you will be required to meet with a councillor from independent government- approved housing counselling agency before you take reverse mortgage. The councillor will explain to you the costs and financial implication of your decision. If he perceives that reverse mortgage loan may not be the best choice for you, he can offer you alternative options that can make you enjoy your retirement age. It will be good if you can shop around before meeting a councillor. The councillor will be in a better position to help you compare the quotes. If you feel that you have made mistake after you have received your reverse mortgage, you can still correct this. You can cancel reverse mortgage at least three days after closing without any penalty and the lender will return whatever fee you have paid to you within 20 days.
How do you receive reverse mortgage?
There are different options by which you can receive your loans. The option of disbursement you choose may determine the length of the loan. The disbursement options available are discussed below:
Bulk disbursement: Under this option, you will receive a single bulk payment from your lender. You can only get bulk payment when you opt for fixed rate mortgage. The problem with this option is that the loan starts accruing interest immediately you receive it even if you have not utilized it.
Monthly Payment: There are two types of monthly payment namely a term option and a tenor option. Under ‘term option’ you will get specific fixed amount on a monthly basis over a fixed period of time. On the other hand, a ‘tenor option’ gives you specific fixed amount on a monthly basis for the period you live in the home. Monthly option is good for homeowners that need additional income to augment their income so that they can cover their monthly expenses. The main advantage of this option is that the amount you receive on monthly basis remain unchanged whether the home decrease in value or not. But this option is only available to variable rate.
A line of credit: You only draw on the approved loans as much as you want when the need arise. Unlike the single disbursement, you only pay interest on the amount drawn while your unused portion grows. A line of credit is only available in adjustable rate reverse mortgage.
Hybrid: You can also have a hybrid of line of credit and bulk disbursement. This seems to be more flexible.
Some people change their payment option for certain reasons. If you want to change your payment option, it is possible. But you will need to pay a small fee. Regardless of the payment option you choose, there may be certain restriction as to the amount you can access in the first year. Even if there is no restriction on the amount you can access, it will save you some costs (such as interest and insurance) if you can borrow less amount in the first year.
Three Types of Reverse Mortgages
- Single Purpose Reverse Mortgages: These are offered by some states, local government agencies non-profit organizations. Single Purpose Reverse Mortgages will allow you access to just small portion of your home equity. This type of reverse mortgage is not federally insured and can be the best option for people looking for less expensive reverse mortgages. However, you may not find this type of reverse mortgage loan everywhere. Before you can be offered this type of reverse mortgage, you will need to specify the reason why you want to obtain the loan. You will not be able to use the loan for more than one purpose. This mortgage may be suitable for people with low income who just need money to take care of specific purpose.
- Proprietary Reverse Mortgages: These can also be called jumbo reverse mortgages as they provide homeowners greater amount on their home equity more than is available with HECMs. Jumbo reverse mortgages are offered by financial institutions to people with high equity on their home. Therefore, it is suitable for people that expect big cash payout. Jumbo reverse mortgages are not backed by the government but the private lenders do. Financial institutions may offer different interest rates and terms. So, it is always advisable to shop around so that you can get your loan at a good term. You don’t need to be paying monthly insurance premium under proprietary reverse mortgages. Also, there is no restriction on the amount you can take from your loan in the first year.
- Home Equity Conversion Mortgages (HECMs): These are usually backed by the federal government through U.S Department of Housing and Urban Development (HUD). This loan is not tied to a particular purpose. FHA usually collects Mortgage Insurance Premium(MIP) a certain per cent of appraised value of the home of the borrower upon the closing of the loan. The essence of the insurance is to protect both the lender and the borrower. If your home falls in value to the point that it cannot no longer pay the total loan balance, the government will pay the balance. Also, if the lender can no longer make your monthly payments to you, government will continue to pay you. FHA has lending limits on Home Equity Conversion Mortgages (HECMs) and this may vary from county to county.
Uses of reverse mortgage
Except you apply for single purpose reverse mortgage loan, there is no restriction on how you can use your reverse mortgage. Even, with the single purpose reverse mortgage loan, you are at liberty to choose the purpose for the loan. It is only that you will not be able to use the loan for another purpose different from the one you specified in your application. However, if there is a lien on your home, it has to be discharged first. Among the top reasons why homeowners apply for reverse mortgage are:
- To pay off their mortgage
- Supplement their income
- Pay healthcare expenses
- To pay for vacation home
- To buy life insurance etc
How much can you get from reverse mortgage?
You can use reverse mortgage calculator to estimate the amount you can get. There are certain criteria that will be applied. The factors that determine how much reverse mortgage you can get include the following:
- Age: There is a particular percentage of the value of your home that you can access. There is a specific percentage that is tied to each specific age.
- Appraised value of your home: The value of your home may be influenced by the location of the home and the general market condition.
- Current interest rates: The lower the interest rates the more loan you can receive.
- Sufficiency of income to pay your expenses: Lenders will like to assess your sources of income to ensure that you have enough money to cover some costs such as property taxes, insurance and ongoing maintenance expenses.
Advantages reverse mortgage
- No additional obligation: It is possible that the value of the home may decrease. If this happens, the value of the house may not be enough to pay off the loan. Notwithstanding, you don’t owe on reverse mortgage more than the value of the home because of the insurance you have already paid. The difference will be taken up by the Federal Housing Administration. That is why reverse mortgage loans are described as non-recourse loans. On the other hand, it is possible that the value of your home increases. In this case, you will have more money left for your heirs if the home is sold. The loan balance will be deducted from the value of the home. The difference will form part of your estate.
- The money is tax free: You are not taxed on the money that the lender pays you. Therefore, the amount is not depleted by way of tax payment.
- Maintain the title of your home: Reverse mortgage gives you opportunity to maintain the title of your home without any fear of losing it due to non-payment of monthly instalment as in the conventional mortgage.
- You don’t need to pay back the money: As long as you continue to live in the home, you will not need to pay back the loan. This gives you peace of mind.
- Social Security and Medicare Benefits: For senior citizens who receive social security and medicare benefits , reverse mortgage does not affect your social security and medicare benefits.
Disadvantages of reverse mortgage
- Little or nothing left for your heirs: It may seem that reverse mortgage is a good source of retirement income. But it can actually jeopardize the interest of homeowners that want to leave the home as part of estates for their heirs. The implication of the loan is that you are actually depleting the value of the estate that ought to go to your heirs. Depending on the value of your home equity in relation to the loan balance, you may have no or little amount left for your heir. When you die, the lender will sell the house. If the value of the house exceeds your loan balance; the balance will become part of your estate. However, if the heirs want to retain the property, they have the option of paying or refinancing the loan into traditional mortgage loan.
- Co-inhabitant may suddenly lose their shelter: If you have other people living with you who are not co-borrower or your spouse, they may lose their shelter if you suddenly die or move out of the home. It is actually good that you let them aware of the situation before hand so that they are not caught unprepared.
- Problem of loan becoming due: Even if you continue to live in the home but you can’t pay insurance, property taxes, and other related costs, the loan will become due immediately. This situation can arise if the borrower develops health challenges that may be too expensive to cure thereby leaving little money to meet other expenses. In this situation, the senior citizen may not have other source of income to pay the monthly expenses. The situation will be worse than the beginning. That is why it is good to consider all other options before settling reverse mortgage.
- High closing fees: Reverse mortgages come with different costs which can make it to be more expensive than conventional mortgage. The costs include origination fees, insurance premium for federally insured mortgages, property taxes, utility and maintenance costs. Origination fees cover the lender’s operating costs and other expenses. This amount is a percentage of the value of the home. Origination fees are regulated by the U.S Department of Housing and Urban Development (HUD) because HECMs are backed by the government. If you obtain HECMs, it is mandatory that you will need to pay mortgage insurance premium in order to ensure that the full loan amount will be paid at closing. Other closing costs such as credit report fee, recording fee, mailing fee, flood certification fee, escrow fee, title insurance, survey and inspection fees still apply.
- Interest rate can increase: If you are on adjustable rate, the interest rate can change depending on the market index. This tends to increase the loan amount.
- Interest is not tax deductible: Unfortunately, the interest on reverse mortgage is not tax deductible.
- Non-availability: Reverse mortgage is not available to everyone. You need to be 62 years and above before you can access the loan. Also, not all property qualifies for the loan.
Although reverse mortgage is fast becoming a financial planning strategy for many retirees, it is advisable that it should be used as a last resort when other options have proved unavailable.