There are many financial benefits to home ownership including accumulating assets that you can pass on to future generations, controlling the cost of living, and the ability to build equity in your property. you over time.
Equity is the value of your home minus any loan balance you have on the property. As you age, equity can be an especially valuable source of financing because it can be harnessed to provide a reliable source of income in the form of a reverse mortgage. This can be a useful source of money in retirement years later — or if you’re facing some other financial emergency.
What is a reverse mortgage?
A reverse mortgage is a type of loan that converts your home’s equity into cash that you can receive in the form of recurring payments—all without having to sell the property. These payments will come from the lender monthly, or you can choose to open a line of credit to be used if needed.
More and more homeowners are using reverse mortgages to generate a tax-free source of income. According to the Consumer Financial Protection Bureau (CFPB), the total number of reverse mortgage loans increased from 43,000 to 59,000 between 2020 and 2021, an increase of more than 36%.
How does a reverse mortgage work?
This form of loan is called a reverse mortgage because of the way the loan is structured. With a traditional mortgage, you borrow money to buy a home, and you pay the lender each month. However, with a reverse mortgage, the lender pays friend.
Perhaps one of the most important points is that when taking out a reverse mortgage, title to your home remains in your name. What you will give up, however, is some of the equity you have accumulated in the house.
When you take out a reverse mortgage, the interest and fees associated with the loan will be added to your reverse mortgage balance each month. And that means the balance increases every month.
And here’s the bottom line: Your Home Equity reduce the result is, because you are borrowing against equity in your home.
Jennifer Fraser explains: “The difference between a forward mortgage and a reverse mortgage is that you’re accessing some of your available equity at your primary residence, and you don’t have to pay your mortgage every month. GreenPath Financial Wellness, a certified reverse mortgage consulting firm. “But your home equity is going down because the lender is giving you equity in advance.”
Some other important points about how reverse mortgages work:
- In most cases, you must be 62 or older to apply for a reverse mortgage. Although some lenders offer mortgages to applicants over the age of 55.
- You still have to pay property taxes on your home and homeowners insurance.
- You are also required to maintain the condition of your home.
- Reverse mortgages are repaid when the borrower no longer lives in the home. Typically the homeowner, or their heirs, will sell the home to pay off the loan.
Different types of reverse mortgages
There are three different types of reverse mortgage options and some notable differences between them.
Home equity convertible mortgage (HECM)
Perhaps the most common type of reverse mortgage is the home equity conversion mortgage — or HECM. The only reverse mortgage insured by the federal government,
HECM is supported by the United States Department of Housing and Urban Development (HUD). And as a result, these loans are only available through lenders that have been approved by the Federal Housing Administration (FHA).
When using HECM, borrowers can choose how they receive money — through a fixed monthly payment or credit limit or even some combination of both of those options. Money can be used for any purpose.
Exclusive Reverse Mortgage
Proprietary reverse mortgages are backed by individual lenders offering them instead of the government. And unlike HECM, these loans are generally available to borrowers under the age of 62. Some lenders offer reverse mortgages to applicants as young as 55, said Steve Irwin, president of the National Reverse Mortgage Lenders Association (NRMLA).
Also, proprietary reverse mortgages are known for offering higher loan amounts than HECMs. That means if you own a home worth $1 million or $2 million or more, you’ll be able to access more equity through a proprietary reverse mortgage than you would with a using HECM.
“The FHA loan limit for HECM is currently $970,800, so that means only $970,800 of the home value under consideration. Irwin explains: If you have a home over $1 million, that extra value won’t be calculated. “Some of the proprietary mortgages go up to $4 million to $6 million, so it’s more of a jumbo product.”
Reverse Mortgage for a Purpose
Perhaps the least common and in some cases, the least expensive option, a single-purpose reverse mortgage is offered by state and local government agencies. In some cases, nonprofits also offer these mortgages.
“Single-purpose reverse mortgages can be used for a single purpose approved by the lender,” says Fraser. “That purpose could include things like property taxes or home repairs.”
Fraser explains that these types of reverse mortgages often provide access to a more limited amount of home equity, which means smaller loans. In some cases, single-purpose reverse mortgages may also be limited to low- to moderate-income homeowners.
Reverse mortgage request
While the eligibility requirements for a reverse mortgage can vary slightly between the three loan options and the lenders offering them, the criteria typically include:
Age requirement
In the case of HECM, the borrower must be 62 years of age or older. For exclusive reverse mortgages, the minimum age can vary, but in some cases, borrowers can be as young as 55 to 60, Irwin said.
Residency requirements
The house should be your primary residence. This means you must live there for most of the calendar year.
Request a housing consultation
Reverse mortgage applicants must meet with an independent housing counselor to discuss their finances and the impact of a reverse mortgage. Whether it’s a proprietary reverse mortgage or an FHA-insured HECM, independent third-party advice is required, says Irwin.
Mortgage balance
Most reverse mortgages require the applicant to fully own the home or at least pay off a substantial portion of the mortgage.
Debt
Most lending institutions require the applicant not to have any federal debt, especially in the case of HECM. This includes things like federal income taxes and federal student loans.
Condition of the house
Typically, the home team must be in good form to qualify for the reverse handicap. Otherwise, the lender may require a repair before resuming the loan.
The benefits and downsides of a reverse mortgage
There are pros and cons to reverse mortgages that should be carefully weighed before proceeding. This type of loan may not be suitable for everyone depending on your short-term and long-term financial goals.
Pros: Reliable income stream
Whether you choose continuous payments or a line of credit from your reverse mortgage, these loans can provide a steady source of income, which can be especially important for low-income earners. fixed input.
Pro: Eliminate mortgage payments
When you mortgage a reverse mortgage, the lender pays you and you stop making mortgage payments. This is also a major benefit and can be helpful for people with limited incomes as they age. Or for individuals who simply want more money to travel, pay for their children’s education or other needs as they arise.
Expert: Avoid using other retirement accounts
Using a reverse mortgage can help borrowers avoid tapping into retirement investment accounts. This can be especially helpful during times of market downturns that affect retirement savings accounts.
Pro: Reverse mortgage income is not taxed
Income generated from a reverse mortgage is not taxed under any circumstances. IRS consider money as an advance loan.
Con: You eat less of the capital you have in your home
As your reverse loan balance increases, the equity in your home will decrease. If your goal is to transfer the home in equity to your heirs, you should carefully consider this division before proceeding.
Con: Fees and interest
Like any loan, there are interest and fees on the reverse mortgage. Many lenders charge a starting fee or a closing cost — or both. There may also be a service fee during the loan process. And depending on whether you open a HECM or a proprietary reverse mortgage, there may also be a premium added to your loan balance each month.
Con: You still have to pay taxes and insurance
The reverse mortgage agreement requires the borrower to still pay property taxes on the home out-of-pocket and homeowner insurance. This means you have to be financially able to keep abreast of these expenses.
When does a reverse mortgage make sense?
Reverse mortgages are not for everyone. There are costs and requirements associated with maintaining this type of loan. The most important of which is that the borrower must have sufficient means to continue paying property taxes and home insurance from his or her funds.
“It is extremely important for borrowers to understand that they must keep property taxes and homeowners insurance up to date,” Irwin explains. Failure to do this may result in the loan being called due.
However, for the right people, under the right circumstances, Irwin says loans can provide a useful source of income.
“We see a majority of consumers pursuing reverse mortgages so they can get their monthly mortgage obligation relief on their existing home,” Irwin said. “We know the majority of elderly homeowners want to age on-site. And maintaining monthly mortgage obligations until retirement has been a challenge. “
A reverse mortgage can also be a good option for those who want to modify their home as they age without having to take out a typical personal loan that requires principal and interest payments.
Finally, there are also individuals who want to avoid using retirement accounts, especially if those accounts have been affected by a bear market.
“More and more individuals are simply building reverse mortgages into a broader financial plan,” says Irwin. “This includes using a home equity strategy if there are retirement savings accounts and retirement investment accounts that have been successful. People can then switch to a home equity strategy in the meantime.”
How to avoid reverse mortgage scams
According to the CFPB, it’s important to be aware of scams involving reverse mortgages. This could include contractors forcing you to use a reverse mortgage to pay for repairs to your property that you may not want or need. Or these scams may include false promotions about special deals for veterans and non-paying reverse mortgages.
“Unfortunately, seniors are often the target,” says Fraser. “One of the benefits of reverse mortgage requirements is that prior to closing the reverse mortgage, the applicant must undergo an orientation session with a certified advisor. When we do those sessions, we’re looking for signs of coercion or someone potentially being asked to cash out the equity and use it for things other than those. what they planned. “
Before proceeding with a reverse mortgage, be sure you understand all the implications and have carefully considered the costs and requirements associated with this type of loan.
