Chances are that you’ve seen a commercial for reverse mortgage loans before, but few people actually know what they are. It turns out that reverse mortgages are actually a powerful way to access the equity in your home, and supplement your income in your later years of life. Want to learn more about reverse mortgage loans? We’ve put together an in-depth overview of everything you need to know about reverse mortgage loans below:
Overview – What is a Reverse Mortgage Loan?
A reverse mortgage is a form of mortgage that allows you to access the equity in your home through monthly installments, a lump sum payment, or a line of credit that’s accessible at any time. It’s called a reverse mortgage because instead of you paying the bank money every month, the bank pays you every month. The best part about this is that the payments made to you each month are tax-free! Although a reverse mortgage may sound great, there are a few criteria you have to meet before getting one:
- Your reverse mortgage has to be taken out on your primary residence – it can’t be used on your second home or vacation home.
- You must be at least 62 years old to take out a reverse mortgage.
- If you are taking out a home equity conversion mortgage (a special type of reverse mortgage insured by the Department of Housing and Urban Development), you must attend a counseling session.
How Does a Reverse Mortgage Loan Work?
While having a lender send you money each month sounds too good to be true, it’s not. With a reverse mortgage, you are essentially taking distributions from your home’s equity each month for the life of the loan. Each month, you will lose a little bit of equity in your home, and receive a monthly installment in return. This money can be used for practically anything you want, depending on the type of reverse mortgage you get. (We’ll cover the different types of reverse mortgages in the next section.)
However, it’s important to remember, that even though the lender is paying you every month, you will still have expenses related to your home that you’re responsible for paying. These expenses include:
- Property taxes
- Home maintenance and repairs
- Homeowners insurance and flood insurance (if applicable)
If you fall behind on any of these items, the lender is able to foreclose on your home, so be sure to stay up to date with your taxes, insurance, and repairs!
What are the Different Types of Reverse Mortgages Loans?
There are three main types of reverse mortgage loans. We’ve listed them below:
Proprietary Reverse Mortgage
A proprietary reverse mortgage is a type of privately issued reverse mortgage. You can generally use the funds for anything you want, such as a vacation at the beach, or just some extra spending money. However, it’s important to remember that it does not come along with federal insurance and protections that a HECM reverse mortgage comes with. Proprietary reverse mortgages don’t have a loan cap like HECM reverse mortgages, so they may be your only option if you have a very expensive home.
Home Equity Conversion Mortgage (HECM)
HECM reverse mortgages are the most common form of reverse mortgage. They can be obtained by borrowing from a Federal Housing Administration (FHA) lender. As we’ve mentioned before, HECM loans are insured by the federal government through the Department of Housing and Urban Development. The limit for HECM loans vary by year, so be sure to check the HUD website for the most up-to-date limits.
Single-Purpose Reverse Mortgage
The single-purpose reverse mortgage is the least costly form of reverse mortgage. Proceeds from a single-purpose reverse mortgage can only be used for the intended purpose stated in the application, as the name would suggest. Single-purpose reverse mortgages are typically issued by local governments or charitable organizations to low to moderate income households. Unfortunately, single-purpose reverse mortgages are not offered everywhere, given the nature of the lending party.
Pros and Cons of a Reverse Mortgage Loan
Although reverse mortgages sound perfect, it’s important to remember that there are always benefits and drawbacks with everything in life. In order to help you form a deeper understanding of reverse mortgages, we’ve listed some of their benefits and drawbacks below:
- You can use the proceeds from most reverse mortgages for whatever you want.
- Reverse mortgages can provide a great source of supplementary income to your social security or retirement plan benefits.
- There are no monthly payments with a reverse mortgage.
- The HECM reverse mortgage is backed by the federal government through the Department of Housing and Urban Development.
- With each distribution, you lose a little equity in your home.
- As your equity decreases, the loan balance increases, and so does the amount of interest that has accrued on your loan.
- There is a very real chance that you could outlive your loan term, and be on the hook to pay it back.
- Since a reverse mortgage decreases your equity over time, your heirs may not stand to benefit from the inheritance of your home.
Frequently Asked Questions
We know we just threw a lot of information at you, and you’re bound to have some additional questions. In an effort to provide some additional clarity, we’ve answered some of the most frequently asked questions below:
Can a Reverse Mortgage Be Refinanced?
Yes, a reverse mortgage is very similar to a traditional mortgage in the sense that it can be refinanced. In fact, the process for refinancing a reverse mortgage is practically the same as refinancing a traditional mortgage!
Is a Reverse Mortgage a Good Idea?
A reverse mortgage can be a great idea if you’re looking to supplement your retirement income without having to work a part-time job. However, it’s best that you speak to your financial advisor before taking out a reverse mortgage, or any loan for that matter.
Are Reverse Mortgages a Scam?
Reverse mortgages are certainly not a scam! In fact, some reverse mortgages are insured by the federal government through the Department of Housing and Urban Development.
In Summary – Are Reverse Mortgages Worth it?
Depending on your situation, a reverse mortgage could be a great way to supplement your retirement income without having to go back to work. Reverse mortgages are a powerful way to access the equity in your home that you’ve been building for decades. And quite possibly the best part is that these installments are paid to you tax-free!