Reverse Mortgage Reviews: Is It A Rip Off Or A Good Idea?

A reverse mortgage may seem enticing if you’re retired and struggling with expenses on a fixed income. However, reverse mortgages come at a cost, so it’s critical to know all the terms upfront.

Reverse mortgage lenders impose high fees and closing costs, and borrowers must pay for mortgage insurance. Reverse mortgages can also come with variable interest rates so your overall costs could increase down the road.

If you think a reverse mortgage might help you stay in your home through retirement, make sure you understand the risks and rewards so you can make a better-informed decision.

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What is a Reverse Mortgage

A reverse mortgage is a secure financial tool which allows property owners 62 years and older to borrow against their home equity

Distribution Type

Lump sum, monthly payments, a line of credit or a combination of the three

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A reverse mortgage is a secure financial tool which allows property owners 62 years and older to borrow against their home equity

Lump sum, monthly payments, a line of credit or a combination of the three

What Is a Reverse Mortgage?

A reverse mortgage is a lending option that lets homeowners who’ve paid off all or most of their mortgage to tap into their home equity. Reverse mortgage funds, which are only available on primary residences and to people over the age of 62, are structured as lump sums or lines of credit that can be accessed on an as-needed basis.

Unlike a traditional mortgage where the balance decreases over time as you make payments, with a reverse mortgage, that balance increases as interest and fees are added on a monthly basis. The loan balance is not paid until the home is sold, either because the borrower moved or passed away.

How Do Reverse Mortgages Work?

Like the term itself, reverse mortgages work the opposite of a traditional mortgage in that payment does not typically occur until the home is sold, either because the borrower moved out or died. Because you’re not making monthly payments like a traditional mortgage, interest and fees keep accruing so the balance goes up, rather than down.

If the homeowner moves out before the loan is repaid, there is a one-year window to close out the loan. If the borrower dies, the estate (or heir to the estate) must pay back the loan, but not more than the value of the house.

Reverse mortgages often come with high fees and closing costs, and a potentially costly mortgage insurance premium. For loans equal to 60% or less of the home’s appraised value, this premium typically equals 0.5%. However, if a reverse mortgage exceeds 60% of the home’s value, the premium can increase to 2.5% of the loan amount.

Types of a Reverse Mortgage

There are several different kinds of reverse mortgages including:

• Single-purpose reverse mortgage. These reverse mortgages are offered by state, local and nonprofit agencies. They must be used to pay for a specific, lender-approved item. This is typically the most affordable type of reverse mortgage.
• Home Equity Conversion Mortgage (HECM). An HECM is a reverse mortgage insured by the U.S. Department of Housing and Urban Development (HUD). This is the most popular type of reverse mortgage because it does not impose income or medical requirements on the borrower. What’s more, the loan funds can be used for any purpose, and there are several payment options.
• Proprietary reverse mortgage. Proprietary reverse mortgages are reserved for higher-value homes. They are not federally insured and, therefore, do not impose upfront or monthly mortgage insurance premiums.

Pros and Cons of a Reverse Mortgage

While a reverse mortgage may seem like a good way to access cash in your golden years, it’s important to understand the realities of this type of loan. Here’s how you can expect to benefit from a reverse mortgage—and what to look out for when comparing this loan option to other alternatives.

Pros

If you’re worried about your ability to cover living expenses or otherwise meet financial obligations, a reverse mortgage might provide the life raft you need.

• A homeowner who might otherwise have to downsize can use a reverse mortgage to stay in their home.
• Borrowers who comply with lending terms don’t have to make payments until the house is sold.
• If the value of your home falls below the reverse mortgage balance, your heirs typically only pay the value—not the full outstanding balance.
• Many reverse mortgages don’t have income or credit requirements.

Cons

For many homeowners, however, the disadvantages of a reverse mortgage outweigh the benefits. Consider these risks before taking out a reverse mortgage against your home.

• There are a number of reverse mortgage scams that prey on seniors who need cash to cover living expenses.
• Reverse mortgages come with additional costs, including origination fees and mortgage insurance up to 2.5% of the home’s appraised value.
• Most interest rates are variable, meaning they can increase over time and further escalate the cost of borrowing.
• Borrowers owe more over time because interest accrues on an increasing loan balance—rather than the loan being paid down over time.
• Unlike traditional mortgage payments, interest payments on reverse mortgages aren’t tax deductible.
• A reverse mortgage can reduce your equity in your home and, therefore, your family’s inheritance from your estate.
• Reverse mortgage lenders may require borrowers to meet strict home maintenance requirements to protect the resale value of the real estate.
• If you fail to uphold any of the loan terms—missing a property tax payment, not adequately maintaining the home, etc.—you may have to pay off the mortgage early.
• Likewise, failure to comply with the terms of a reverse mortgage can result in default and even foreclosure.
• Funds from a reverse mortgage can impact eligibility for need-based retirement income like Medicaid and Supplemental Security Income (SSI).

How To Avoid Reverse Mortgage Scams

If you’re applying for a reverse mortgage, talk to a counselor from an independent government-approved housing counseling agency first. The counselor will explain the costs and financial implications of getting a reverse mortgage, as well as the possible alternatives. You should also ask for their help comparing the costs of different types of reverse mortgages.

When shopping for a reverse mortgage, take your time and don’t allow yourself to get pressured into buying other financial products as part of the package. This is a complicated process; if you feel pressured, then do not do it.

You should also watch out for contractors who suggest getting a reverse mortgage to cover the costs of home improvement or repairs. A home equity line of credit (HELOC) is a more suitable option for these expenses.

It’s important to note that you have three business days after a reverse mortgage closes to cancel the deal for any reason, without penalty. This is referred to as your right of rescission. Avoid reverse mortgage loans that don’t give you this option.

Is a Reverse Mortgage a Good Idea?

Whether or not you should get a reverse mortgage depends heavily on your financial situation. If you’re worried about covering living expenses, a reverse mortgage might help if you:

• Need to free up your monthly mortgage payments. Unlike a traditional mortgage, reverse mortgages don’t have monthly payments. The loan doesn’t have to be paid off until you move out or pass away.
• Want the tax benefits. Money from a reverse mortgage is not taxable, unlike income from retirement accounts.
• More easily qualify for them. Many reverse mortgages don’t have income or credit requirements, useful if you have a poor credit history.

When Is a Reverse Mortgage a Bad Idea?

In many cases, a reverse mortgage is not the best option for senior homeowners. Here are cases when you should not use a reverse mortgage:

• You plan to move in the next few years. Reverse mortgages don’t have to be repaid unless the homeowner sells the home, changes their primary residence or dies. This includes moving to an assisted living facility for more than 12 consecutive months. So, if you plan to move within the next few years, a reverse mortgage is likely not the best option. Selling a home with a reverse mortgage is also more complex than selling a traditionally financed home.
• You intend to leave your home to your heirs. Because they often involve high fees—and the interest accrues on an increasing loan balance—reverse mortgages are an expensive way to borrow money. These added costs can cut into your home equity and reduce your family’s inheritance when you die. What’s more, if you plan to leave your home to a specific family member, a reverse mortgage can complicate this process.
• There are friends, relatives or other roommates living with you. In the event of death, your home will be sold so the reverse mortgage can be repaid by your estate. If you have friends, family or other roommates staying at your home, they’ll likely have to vacate the property.
• You can’t cover the costs. Reverse mortgages come with higher fees than most traditional loans, and borrowers are also faced with mortgage insurance costs up to 2.5% of the home value. What’s more, most reverse mortgage terms require borrowers to stay on top of property taxes, homeowners insurance and maintenance costs to avoid default. If there’s a chance you may default on the loan, a reverse mortgage is not a good fit.

Alternatives to a Reverse Mortgage

If a reverse mortgage isn’t appealing but you still need access to cash, consider the alternatives to a reverse mortgage—like refinancing your mortgage or taking out a home equity loan. Evaluate these other mortgage options before saddling yourself with a reverse mortgage.

Downsize Your Home

While downsizing may not be an attractive option for everyone, selling your home and buying a smaller, less expensive one can provide extra cash to cover living expenses. If the real estate market is hot in your area, this can be a great way to get the most out of your hard-earned home equity.

However, if you’re in a seller’s market you’ll likely have to pay a premium for your new, smaller space. Even so, retaining your home equity without taking out a reverse mortgage can be a much more attractive—and less expensive—way to cover expenses in retirement.

Cash-out Mortgage Refinance

If you have equity in your home but aren’t comfortable with a reverse mortgage, mortgage refinancing is another option to borrow against that equity. This process involves taking out a new home loan to pay off your existing mortgage, while you also can access lower interest rates and more favorable lending terms.

With a cash-out refinance, you can borrow more than your mortgage’s outstanding balance and use those funds to cover home improvements or consolidate other debts. Just keep in mind that you’ll have to pay refinancing fees that typically equal between 3% and 6% of the original mortgage loan’s outstanding balance.

Home Equity Loan or Home Equity Line of Credit

A home equity loan is a second mortgage that’s secured by the borrower’s home equity and paid out in a lump sum. Similarly, a HELOC lets homeowners borrow against their equity up to a certain limit and access those funds on an as-needed basis. This means you only pay interest on your current balance, not a lump sum loan.

In contrast to a reverse mortgage, you will have to make monthly payments, and lenders will evaluate your income and credit when reviewing your application.

Frequently Asked Questions (FAQs)