mortgage

The ins and outs of reverse mortgages

For homeowners 62 years and older, a reverse mortgage may seem like an excellent way to tap into home equity, generating much-needed retirement income. After all, the loan typically doesn't have to be repaid as long as the last surviving borrower lives in the home or until the home is sold.

Unlike conventional "forward" mortgages, where you make a monthly payment to the lender, a reverse mortgage lender issues you money that is generally not taxable and does not affect Social Security or Medicare benefits.

"For a person 62 years of age or older who wants to utilize his home to supplement cash flow and doesn't have to worry about budgeting to pay it back, it's a pretty interesting product," says Bob Walters, chief economist at Quicken Loans in Livonia, Mich.

But before rushing out to apply for a reverse mortgage, be aware that this type of loan has several downsides. Closing costs and fees can be steep, and if you are thinking about leaving your home in two to three years, this is not a financially prudent way to extract money from your home. In that case, a home equity loan is likely a cheaper option.

Reverse mortgages 101

Chances are excellent that a reverse mortgage will be a better deal for the lender than for you. Consider these basics about reverse mortgages before you ink the deal.

  • Types of reverse mortgages.
  • How much can you borrow?
  • Interest rates.
  • Insurance costs, other fees.
  • The service fee set-aside.
  • How to extract money.

Reverse mortgage types

Homeowners can choose from three types of reverse mortgages:
  • Single-purpose reverse mortgages.
  • Proprietary reverse mortgages.
  • FHA Home equity conversion mortgages, or HECMs.

Some state and local government entities and nonprofits offer single-purpose reverse mortgages. They are usually low-cost loans, but they are generally available only to people with low or moderate incomes. Also, they can only be used for specific purposes, such as home repairs, improvements or property taxes.

Proprietary mortgages are private loans backed by the companies that market them.

Federally insured home equity conversion mortgages, or HECMs, backed by the U.S. Department of Housing and Urban Development, or HUD, account for 90 percent of all reverse mortgages, according to the National Reverse Mortgage Lenders Association.

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Recently, the FHA announced the HECM for Purchase Program, which allows qualifying seniors to sell their existing residence and use the HECM as a purchase loan to buy a new principal residence.

Under the new program, borrowers can also choose to retain their existing home as a rental property, but their finances will incur additional scrutiny by the government to ensure they have enough income to maintain both properties.

HECMs and proprietary mortgages normally have no income requirements and they can be used for any purpose. But they generally have high upfront costs and normally require the borrower to meet with an independent government-approved housing counselor before applying.

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