With the average monthly Social Security check a scant $1,693.88 in 2023, many seniors struggle to find ways to survive in the face of rising inflation. In an effort to increase their incomes and remain in their homes, some turn to tapping the equity they’ve accrued in those homes, via a special form of financing: the reverse mortgage.

Geared specifically towards seniors, reverse mortgages can be a great tool — but that tool can also turn against them if it’s not fully understood. Here’s how reverse mortgages work, and what homeowners considering them need to know.

What is a reverse mortgage?

A reverse mortgage is a type of loan that allows homeowners ages 62 and older, typically ones who’ve paid off their mortgage, to borrow part of their home’s equity as tax-free income. Unlike a regular mortgage in which the homeowner makes payments to the lender, with a reverse mortgage, the lender makes regular payments to the homeowner — hence the name.

Homeowners who opt for this kind of mortgage can continue to live in their homes. But the loan must be repaid when the borrower dies, permanently moves out or sells the home.

One of the most popular types of reverse mortgages is the Home Equity Conversion Mortgage (HECM), which is backed by the federal government.

How does a reverse mortgage work?

Reverse mortgage candidates typically own their homes free and clear. However, they may not be able to borrow the entire value of their home even if their primary mortgage is paid off.

The amount a homeowner can borrow, known as the principal limit, varies based on the age of the youngest borrower or eligible non-borrowing spouse, current interest rates, the HECM mortgage limit ($1,089,300 in 2023) and the home’s value.

Homeowners are likely to receive a higher principal limit the older they are, the more the property is worth and the lower the interest rate. The amount might increase if the borrower has a variable-rate HECM. With a variable rate, options include:

  • Equal monthly payments, provided at least one borrower lives in the property as their primary residence
  • Equal monthly payments for a fixed period of months agreed on ahead of time
  • A line of credit that can be accessed until it runs out
  • A combination of a line of credit and fixed monthly payments for as long as you live in the home
  • A combination of a line of credit plus fixed monthly payments for a set length of time

If you choose a HECM with a fixed interest rate, on the other hand, you’ll receive a single-disbursement, lump-sum payment.

The interest on a reverse mortgage accrues every month, and you’ll still need to have adequate income to continue to pay for property taxes, homeowners insurance and upkeep of the home.

Typically, homeowners use reverse mortgages to supplement their retirement income, pay for home repairs, or cover medical expenses. “In each situation where regular income or available savings are insufficient to cover expenses, a reverse mortgage can keep seniors from turning to high-interest lines of credit or other more costly loans,” says Bruce McClary, spokesperson for the National Foundation for Credit Counseling.

Reverse mortgage requirements

To be eligible for a reverse mortgage, the primary homeowner must be age 62 or older (a small number of lenders may offer options for people as young as 55). The additional eligibility requirements include:

  • You must own the property outright or have at least paid down a substantial amount of your mortgage (at least half).
  • The property must be occupied as your primary residence.
  • You cannot be delinquent on any federal debt.
  • You must have the financial capability to continue to make payments on property taxes, homeowners insurance and homeowners association dues.
  • You must participate in an information session provided by a U.S. Department of Housing and Urban Development (HUD)-approved reverse mortgage counselor.

“Seniors should be careful to make the most of the loan by budgeting carefully in order to avoid running out of funds too soon and to be sure that taxes and insurance are paid as agreed,” cautions McClary.

Types of reverse mortgages

There are different types of reverse mortgages, and each one fits a different financial need.

  • Home Equity Conversion Mortgage (HECM) – The most popular type of reverse mortgage, these federally-insured mortgages usually have higher upfront costs, but the funds can be used for any purpose. In addition, you can choose how the money is withdrawn, such as fixed monthly payments or a line of credit (or both options simultaneously). Although widely available, HECMs are only offered by Federal Housing Administration (FHA)-approved lenders, and before closing, all borrowers must receive HUD-approved counseling.
  • Proprietary reverse mortgage – This is a private loan not backed by the government. You can typically receive a larger loan advance from this type of reverse mortgage, especially if you have a higher-valued home. This
  • Single-purpose reverse mortgage – This mortgage is not as common as the other two, and is usually offered by nonprofit organizations and state and local government agencies. A single-purpose mortgage is generally the least expensive of the three options; however, borrowers can only use the loan (which is typically for a much smaller amount) to cover one specific purpose, such as a handicap accessible remodel, explains Jackie Boies, a senior director of housing and bankruptcy services for Money Management International, a nonprofit debt counselor based in Sugar Land, Texas.

How much does a reverse mortgage cost?

The closing costs for a reverse mortgage aren’t cheap, but the majority of HECM mortgages allow homeowners to roll the costs into the loan so you don’t have to shell out the money upfront. Doing this, however, reduces the amount of funds available to you.

Here’s a breakdown of HECM fees and charges, according to HUD:

  • Mortgage insurance premiums (MIP) – There is a 2 percent initial MIP at closing, as well as an annual MIP equal to 0.5 percent of the outstanding loan balance. The MIP can be financed into the loan.
  • Origination fee – To process your HECM loan, lenders charge the greater of $2,500 or 2 percent of the first $200,000 of your home’s value, plus 1 percent of the amount over $200,000. The fee is capped at $6,000.
  • Servicing fees – Lenders can charge a monthly fee to maintain and monitor your HECM for the life of the loan. Monthly servicing fees cannot exceed $30 for loans with a fixed rate or an annually adjusting rate, or $35 if the rate adjusts monthly.
  • Third-party fees – Third parties may charge their own fees, as well, such as for the appraisal and home inspection, a credit check, title search and title insurance, or a recording fee.

Keep in mind that the interest rate for reverse mortgages tends to be higher, which can also add to your costs. Rates can vary depending on the lender, your credit score and other factors.

Is a reverse mortgage right for you?

A reverse mortgage can be a help to homeowners looking for additional income during their retirement years, and many use the funds to supplement Social Security or other income, meet medical expenses, pay for in-home care and make home improvements, Boies says.

The money is not considered taxable income. Borrowers do incur monthly interest charges, but those can be rolled into the loan balance, so there’s no immediate payment.

There are also flexible ways to receive the money from the reverse mortgage: a lump sum, a monthly payment, a line of credit or a combination. Plus, if the value of the home appreciates and becomes worth more than the reverse mortgage loan balance, you or your heirs may receive the difference, Boies explains.

However, it’s essential to consider the drawbacks in addition to the advantages of reverse mortgages. For example, if the loan balance exceeds the home’s value at the time of your death or permanent departure from the home, your heirs may need to hand ownership of the home back to the lender.

There are also potential complications involving others who live in the home with the borrower. There are protections in place for spouses cohabiting with you when you take out the mortgage, whether they actually co-sign the loan or not (a “non-borrowing spouse”). However, spouses who wed after the reverse mortgage was established or other relatives who inherit the property will want to pay close attention to the details of what is necessary to settle the debt.

“There are provisions that allow family to take possession of the home in those situations, but they must pay off the loan with their own money or qualify for a mortgage that will cover what is owed,” McClary says. And what is owed may be bigger than you realize — if the original borrower let interest accrue on the principal, instead of paying it each month.

Additionally, while not all reverse mortgage lenders use high-pressure sales tactics, some do use them to attract borrowers. “It is always best to receive guidance from a nonprofit agency that offers reverse mortgage counseling before signing a loan agreement,” McClary recommends. “Taking advice from a celebrity spokesperson or a sales agent without getting the facts from a trusted, independent resource can leave you with a major financial commitment that may not be best for your circumstances.”

The industry is also, unfortunately, rife with unscrupulous types. Many see seniors as an easier target and homes as a valuable asset worth going after. Keep your eye out for reverse mortgage scams when you’re shopping for a loan.

Alternatives to a reverse mortgage

If you’re not sold on taking out a reverse mortgage, you have options. In fact, if you’re not yet 62 (and ideally not turning 62 soon), a home equity loan or HELOC is likely a better option.

Both of these tools allow you to borrow against the equity in your home, although lenders limit the amount to 80-85 percent of your home’s value, and with a home equity loan, you’ll have to make monthly payments. With a HELOC, payments are required once the draw period on the line of credit expires.

The closing costs and interest rates for home equity loans and HELOCs also tend to be significantly lower than what you’ll find with a reverse mortgage.

Aside from a home equity loan, you could also consider:

  • Cutting expenses – Trimming discretionary expenses can help you stay in your home long-term. If you need help with a necessary bill, consider contacting a local assistance organization (the Administration for Community Living can help you find one), which may be able to assist with fuel payments, utility bills and needed home repairs.
  • Downsizing – If you’re able and willing to move, selling your home and moving to a smaller, less expensive one can give you access to your existing home’s equity. You can use the proceeds of the sale to pay for another house in cash or pay off other debt.
  • Refinancing – If you haven’t paid off your mortgage yet, you could look into refinancing the loan to lower your monthly payments and free up the difference. Make sure to weigh the closing costs and the new loan terms, however, to see how these will affect your finances in your retirement years.

Reverse mortgage FAQs

  • The amount of money you can get from a reverse mortgage depends upon a number of factors, such as the current market value of your home, your age, current interest rates, the type of reverse mortgage, its associated costs and your financial assessment. The amount you receive will also be impacted if the home has any other mortgages or liens. If there’s a balance from a home equity loan or home equity line of credit (HELOC), for example, or tax liens or judgments, those will have to be paid with the reverse mortgage proceeds first. “Regardless of the type of reverse mortgage, you shouldn’t expect to receive the full value of your home,” Boies says. “Instead, you’ll get a percentage of that value.”
  • Finding the right reverse mortgage lender can be difficult. When you’re shopping around, the two key things to look at are price and customer service. You should consider the interest rates and other fees related to the loan and make sure the lender is easy to work with.
  • Generally, you have to pay back a reverse mortgage only once you die. However, there are other scenarios where you could be forced to repay it: If you permanently move out, no longer use it as a primary residence or sell the home.
  • As with any mortgage, there are conditions for keeping your reverse mortgage in good standing, and if you fail to meet them, you could lose your home. For example, you could lose your home if.
    • The home is no longer your primary residence.
    • You decided to move or sell your home.
    • You don’t pay your property taxes or homeowners insurance.

Bottom line on reverse mortgages

A reverse mortgage presents a way for older homeowners to supplement their income in retirement or pay for home renovations or other expenses such as healthcare costs. There are many alternatives that should be considered.

It’s best to speak with a HUD-approved counselor before committing to a reverse mortgage (and if you’re looking to get a HECM, you’ll be required to). A counselor can help outline the pros and cons and how this kind of loan might impact your heirs after you pass away. To locate an FHA-approved lender or HUD-approved counseling agency, you can visit HUD’s online locator or call HUD’s Housing Counseling Line at 800-569-4287.

Additional reporting by T. J. Porter