Reverse mortgages are promoted by celebrities like Tom Selleck, Robert Wagner and Henry “The Fonz” Winkler, but caution is warranted.
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If you ever watch cable TV, chances are you’ve seen reverse mortgage commercials with celebrity spokespeople like Tom Selleck, Robert Wagner and Henry “The Fonz” Winkler. A reverse mortgage is a way to borrow against the value of your primary residence for extra retirement income.
“It’s a personal financial management tool that enables homeowners to convert the home equity into loan proceeds," says Steve Irwin, president of the National Reverse Mortgage Lenders Association. “Homeowners can access this money without having to sell, move or take on monthly loan payments.”
However, these products can have some sizable risks and drawbacks, which the celebrity spokespeople gloss over. If you’re considering a reverse mortgage, here’s what to know.
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A reverse mortgage allows you to borrow and spend your home equity, that is, the value of your home that you’ve paid off. You could collect a lump sum. You could also set up ongoing monthly income payments, either for a set period or guaranteed to last as long as you’re living in the home. You could set up a line of credit to tap into at your convenience.
If you still owe some amount on your mortgage, a reverse mortgage can pay off the remaining debt so you no longer owe monthly payments. If you want to move, you could use a reverse mortgage to pay for your new home. That way, you don’t have to sell first to free up money to buy.
The amount you receive for a reverse mortgage depends on the value of your home, your total equity and age. The older you are when you apply, the more you receive. That’s because these loans are usually repaid only after the applicant passes away. If you’re married, the payout is based on the age of the youngest spouse.
Interest rates also matter. When interest rates are high, like now, you receive less because more of the equity goes towards the borrowing cost. Most reverse mortgages are insured and regulated by the Federal Housing Administration (FHA). The government sets a borrowing limit for these FHA reverse mortgage loans. It’s up to $1,149,825 maximum in 2024, even if your home is worth more.
These lenders don’t check your income or credit score. You qualify based only on your age and your home’s property value.
When you take out a reverse mortgage, the lender deducts an upfront fee. It also charges interest over the life of your loan. Reverse mortgage interest rates are usually higher than conventional mortgage interest rates, but similar to rates on home equity loans.
For example, a married couple owns a $750,000 home in Washington, D.C. The youngest spouse is 75. They could potentially borrow up to $258,699 through a reverse mortgage, according to a calculator from the reverse mortgage association. Alternatively, the couple could receive around $2,000 in ongoing monthly income. The loan would charge $25,551 upfront for fees and costs, and has a 7.5% annual adjusting interest rate.
Assuming the couple borrows the full $258,699 upfront, lives for another 15 years, and the interest rate averages 7.5% during this time, the debt would grow to around $765,000. The heirs would need to pay this debt after selling the home, keeping any remaining equity after property appreciation to themselves.
A reverse mortgage can be costly versus a home equity loan because of higher upfront fees, but then you have ongoing loan payments. “A reverse mortgage is meant for someone who doesn’t have cash flow,” says Derek Miser, president of Miser Wealth Partners in Knoxville, Tenn.
You must be at least 62 to take out an FHA reverse mortgage. If you’re married and only one partner is over 62, you could still take out a reverse mortgage. The lender would classify the younger partner as an eligible non-borrowing spouse and reduce the payment to account for their age.
There are private proprietary reverse mortgage loans that aren’t FHA-insured and have more flexibility to set terms. Some of these products accept applicants as young as 55. Private reverse mortgages could also extend credit beyond the $1,149,825 cap for FHA loans. In exchange, these private reverse mortgages may charge higher interest rates.
Reverse mortgages do not require ongoing payments while you’re alive and still living in the home. The loan only comes due after you move elsewhere or pass away. At this point, you or your heirs can sell the property to pay off the reverse mortgage, keeping any sale proceeds above the outstanding loan. If your family wants to keep the home, they could refinance the debt to a new primary mortgage.
“Be sure to coordinate strategies with your beneficiaries so they are ready to make arrangements upon your death,” says James Enriquez, a financial planner with Strategic Insights Financial Planning Group in McAllen, Texas. That way, they aren’t surprised and upset by the smaller inheritance.
Reverse mortgages are non-recourse loans. They are only secured by your property. If the total reverse mortgage debt exceeds the resale value of your home, the lender can’t go after your other assets or heirs for repayment.
As part of a reverse mortgage contract, you agree to continue paying the ongoing property taxes, homeowner’s insurance, and maintenance. If you don’t, the lender could foreclose and seize the property because you aren’t protecting the asset securing the loan.
Several top reverse mortgage lenders faced six-figure fines because they didn’t properly disclose this condition. Their ads made it seem like it was impossible for seniors to lose their homes with a reverse mortgage when they could by breaking the contract terms. The government felt this was deceptive advertising.
Keep in mind that you’ve already been paying insurance and property taxes for years as a homeowner and wouldn’t run into problems so long as you keep doing so, says Miser, the financial advisor from Tennessee. “If you don’t pay your property taxes, the government would eventually place a lien and auction the home anyway.”
The government strengthened spousal protections for reverse mortgages in 2014.
“Years ago, there were cases of people removing their younger-than-62 spouse from the home title so they could take out a reverse mortgage, “says Enriquez. “When the older partner died, the lender would try to foreclose on the surviving spouse. Today, they can remain for the rest of their lives.”
However, these protections do not apply to other family members. If you take out a reverse mortgage, the loan will be due after you pass away or move. If your family member can’t cover the debt, they could lose the home.
The government requires you to meet with an independent, third-party counselor who doesn’t work for a lender before you can take out a reverse mortgage.
“During this session, you’ll discuss how these products work, the payment plan and the attributes. You’ll also compare against other options, like selling and downsizing or borrowing using a home equity loan,” says Irwin from the NRMLA.
Reverse mortgages are most commonly used as retirees get older and run out of other assets, says Enriquez, the CFP from Texas. In other words, they only use a reverse mortgage as a last resort. However, he finds there are benefits to proactively taking a reverse mortgage earlier in retirement to coordinate with your other investments.
For example, you could set up a line of credit reverse mortgage early in your retirement, locking in the value. If the stock market dives, you could spend down the line of credit while your portfolio recovers.
You should get quotes from multiple lenders for a reverse mortgage, the same as any home loan. AAG (American Advisors Group), Finance of America Reverse, Longbridge Financial and Mutual of Omaha are a few top options. Lenders typically present the loan information in a one-page document, including the fees and amount you’d receive under different payout options.
While you need to review your options carefully, reverse mortgage lenders have a worse reputation than they deserve, says Miser. “There’s a lot of poor information and guidance out there which creates the suspect nature. While reverse mortgages aren’t for everyone, they can make sense for someone who needs an extra lifeline.”
Note: This item first appeared in Kiplinger Retirement Report, our popular monthly periodical that covers key concerns of affluent older Americans who are retired or preparing for retirement. Subscribe for retirement advice that’s right on the money.
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