Most everyone knows that a mortgage is a loan you use to buy a home. But what about a reverse mortgage?
The simplest definition of a reverse mortgage is that it’s a type of loan. Available to people aged 62 and older, a reverse mortgage enables homeowners to borrow against the value of their property and receive cash funds. Read on for everything you need to know!
What’s “Reverse” About a Reverse Mortgage?
With a traditional mortgage, you’re making monthly payments that result in less debt and more home equity – in other words, over time you owe less money and own more of your home. With a reverse mortgage, it’s basically the opposite. You’re receiving money rather than paying it, but with every chunk of money you get, you accumulate more debt and less home equity.
How Is a Reverse Mortgage Repaid?
Homeowners typically don’t pay back a reverse mortgage as long as they’re living in the home. However, when you move out or pass away, the loan must be repaid by either yourself or your estate. This usually entails selling the house to cover loan repayment.
How Are Funds Distributed?
The most common way to receive reverse mortgage funds is in the form of regular monthly payments. However, homeowners taking out a reverse mortgage do have a variety of options to receive their funds. They can choose a lump sum, a line of credit than enables borrowing as and when it’s needed, or fixed monthly payments for a specific term.
The distribution of funds from a reverse mortgage can sound a bit like a home equity loan. Keep in mind that with a traditional home equity lump-sum loan or line of credit, you’re borrowing against the equity of your home with a plan in place to pay back the loan and regain this equity. With a reverse mortgage, you don’t have the option to get back equity – eventually, your home or its relevant value will belong to the lender.
Who Can Get a Reverse Mortgage?
Reverse mortgages are only available to homeowners aged 62 and up. To qualify, you normally need to have at least 50% equity in your home, based on the current value of the property – so if you just bought a house last year with a down payment of 20%, don’t expect to qualify for a reverse mortgage.
What Kinds of Reverse Mortgages Are Available?
There are three key types of reverse mortgages. A single-purpose reverse mortgage can only be used for a purpose specified by the lender, such as home repairs or tax payments. A proprietary reverse mortgage is designed for people with higher-value homes who want a bigger loan. A Home Equity Conversion Mortgages (HECM) is backed by the U.S. Department of Housing and Urban Development and can be used for any purpose, and requires certain conditions to be met including a session with an approved financial counselor.
Why Take Out a Reverse Mortgage?
A reverse mortgage can be helpful to older adults in need of supplemental income. Payments received from a reverse mortgage are normally tax-free and they enable homeowners to turn home equity into cash, without having to sell their house and move somewhere else.
What Are the Drawbacks?
There are good reasons to be cautious about reverse mortgages. Like any loan, interest is added over time – so homeowners will owe more and more throughout the life of the loan. This could impact a spouse or other living relatives, or the borrower if they do decide to move from the house.
In addition, reverse mortgages usually come with a number of servicing fees and closing costs. Insurance premiums may be added as well. Moreover, homeowners with a reverse mortgage are still responsible for all costs related to the property, such as utilities, maintenance, property taxes and so on.
Scams – What to Watch Out For
Be aware that reverse mortgage scams targeting seniors have been reported. Never buy a financial product from an untrusted source, and be cautious of predatory lenders who tack on unexplained fees and closing costs, or pressure borrowers to act fast. If a reverse mortgage has been suggested to you or a family member and you’re concerned about fraud, report it to the Federal Trade Commission.
