If you own a home and are at least 62, you might be able to use your home's equity for retirement income, medical expenses, home improvements, or more, using your home as collateral. While reverse mortgages are currently seeing a dip in popularity, nearly 20,000 homeowners have taken out these loans in FY 2024.
What is a reverse mortgage?
A reverse mortgage is a type of home loan that allows homeowners to use their home as security to borrow money. When you take out a reverse mortgage, the home's title remains in your name, and although you're borrowing money, you don't make monthly mortgage payments.
How does a reverse mortgage work?
A reverse mortgage works by allowing homeowners to access their home's equity as a lump sum of money, a line of credit, a regular monthly payment, or a combination of the three. Every month, in addition to any money you borrow, interest and fees accrue, adding to the balance owed. As your balance grows, you own less equity in your home.
What are the types of reverse mortgages?
There are three types of reverse mortgages:
- Home Equity Conversion Mortgage (HECM): This is the most common type of reverse mortgage. HECMs are insured by the Federal Housing Administration (FHA).
- Proprietary reverse mortgage: This is a reverse mortgage that is not insured by the FHA. It's offered by lenders, usually to borrowers with a high-value home.
- Single-purpose reverse mortgage: This is offered by some state or local governments or non-profit organizations for low- to mid-income borrowers and is not insured by the federal government. Borrowers can use this type of reverse mortgage for specific purposes only, such as for home improvements or to pay property taxes.
Who is eligible for a reverse mortgage?
There are several requirements homeowners have to meet to qualify for a reverse mortgage:
- Age: You must be at least 62 years old to qualify.
- Your principal residence: The home you use as security for the loan must be a home you live in most of the year.
- No or low mortgage owed: You need to own your home outright or have a small enough mortgage that you can pay it off when you close on the reverse mortgage loan. You pay any existing mortgage balance with your own funds or with the funds from the reverse mortgage.
- No federal debt owed: You cannot owe any federal debt, such as income taxes or student loans. If you do, you can use the reverse mortgage funds to pay those debts.
- Ability to maintain the home: You need to be able to pay property taxes and homeowners insurance and maintain and repair your home as needed.
- Home currently in good shape: Your home needs to meet required property standards from HUD, your lender, or both.
- Receive counseling: You'll need to receive counseling from a HUD-approved reverse mortgage counseling agency, which you can find at HUD.gov.
What are the costs and risks of a reverse mortgage?
There are substantial costs and risks to consider when you take out a reverse mortgage:
Costs
- Origination fee: $6,000 or less, paid to the lender.
- Closing costs: These usually total between 2% and 5% of the loan.
- Mortgage insurance: This is usually a one-time upfront fee of 2% of the property's value along with an annual premium of 0.5% of the outstanding home's balance.
- Interest: Interest rates fluctuate. Reverse mortgage loan rates are usually slightly higher than traditional mortgage rates.
- Service fees: If you are charged a service fee, it could be up to $35 a month.
- Counseling: If you take out a HECM, the most common type of reverse mortgage, you're required to attend counseling from a HUD-approved reverse mortgage counseling agency. The cost varies depending on the agency and is typically around $125.
Risks
- Losing your home: You must maintain the home, make necessary repairs, pay property taxes, and keep a homeowners insurance policy current. Otherwise, the loan can become due on demand, meaning you could lose your home.
- Not handling the money well: This can especially happen to borrowers who receive money in one lump sum. The money might run out too soon, often from unwise spending decisions.
- Being conned by a scammer. Common scams include overpaying contractors for work or hiring them for unnecessary work, making a bad investment, or buying an unsuitable annuity.
How is a reverse mortgage paid back?
You or your heirs pay back the loan when an event happens to trigger the payback, such as when you die or permanently move. Reverse mortgage loans are usually paid back by selling the home. Any remaining equity goes to you or your heirs.
How does a reverse mortgage work FAQ
What happens if the loan balance exceeds the home's value?
You or your heirs will never owe more than the home's value. The mortgage insurance premium borrowers pay protects against that. Mortgage insurance also protects borrowers who take money as a line of credit or in monthly installments from the lender going out of business. If that happens, borrowers still receive their funds.
Can I lose my home with a reverse mortgage?
Yes, you could lose your home with a reverse mortgage. If any of the following occur, this triggers the loan being due on demand:
- You fail to pay property taxes.
- You fail to pay homeowners insurance.
- You fail to maintain the home and/or make necessary repairs.
- You permanently move out. (Being away for more than 12 consecutive months, such as in a healthcare facility, is considered being permanently moved out.)
What are the alternatives to a reverse mortgage?
There are several alternatives to a reverse mortgage:
- Home equity loan or home equity line of credit: These loans also use the equity in your home as security. You would need to be able to pay them back, however.
- Refinancing: This could help if you're looking for a lower interest rate. Or if you need cash, you might consider a cash-out refinance where you replace your current mortgage with a larger mortgage. This would also need to be paid back.
- Downsizing: This involves selling your current home for a less expensive home or moving into a less expensive living arrangement.
- Lowering your expenses: You can look into Benefits CheckUp to determine whether you can receive financial assistance with healthcare, food, utilities, and more.
How do I apply for a reverse mortgage?
To apply for a reverse mortgage, make sure you meet the requirements to qualify. (See "Who is eligible for a reverse mortgage" above.) If you qualify, compare reverse mortgage loan rates and terms from a variety of lenders. When you find a lender you like, you'll fill out a loan application and follow the steps. You'll also need to find a HUD-approved counseling agency and attend a counseling session.
What should I consider before taking out a reverse mortgage?
Before you take out a reverse mortgage consider your financial needs. Because a reverse mortgage is an expensive option that comes with the risk of losing your home, make sure you'll be able to handle the expenses that come with homeownership.
You'll also need to consider that you probably will not have a house to leave to your heirs. But if a reverse mortgage is the best option to provide a financial safety net for you or to help you pay bills and you can adhere to the terms, it might be the right product for you.
