The ABC’s of reverse mortgages

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With an influx of commercials and last-resort needs for quick cash, reverse mortgages have been on the rise. Designed to help cash-poor seniors and their families, these loans allow homeowners to liquidate their home equity into cash that typically doesn’t have to be paid back as long as they or an heir lives in the house.

However, many don’t know the potential risks or even the terms associated with these loans. So, before considering this loan alternative, we have compiled the following content abstract from the AARP Foundation’s manual on reverse mortgage loans.

According to AARP, although there are different types of reverse mortgages, most have similar features. Here are the most common terms and how they could affect your financing decisions.

Homeownership

With a reverse mortgage, you remain the owner of your home just like when you had a forward mortgage. This means you are still responsible for paying your property taxes and homeowner insurance and for making property repairs.

When the loan is over, you or your heirs must repay all of your cash advances plus interest (see “Debt Limit” below for more on repayment). Reputable lenders don’t want your house; they want repayment.

Financing Fees

You can use the money you get from a reverse mortgage to pay the various fees that are charged on the loan. This is called “financing” the loan costs. The costs are added to your loan balance, and you pay them back plus interest when the loan is over.

Loan Amounts

The amount of money you can get depends mostly on the specific reverse mortgage plan or program you select. It also depends on the kind of cash advances you choose. Some reverse mortgages cost a lot more than others which reduces the amount of cash you can get from them.

Within each loan program, the cash amounts you can get generally depend on your age and your home’s value:

  • the older you are, the more cash you can get; and
  • the more your home is worth, the more cash you can get.

The specific dollar amount available to you may also depend on interest rates and closing costs on home loans in your area.

Debt Payoff

Reverse mortgages generally must be “first” mortgages; that is, they must be the primary debt against your home. So, if you now owe any money on your property, you generally must do one of two things:

  • pay off the old debt before you get a reverse mortgage; or
  • pay off the old debt with the money you get from a reverse mortgage.

Most reverse mortgage borrowers pay off any prior debt with an initial lump sum advance from their reverse mortgage. In some cases, you may not have to pay off other debt against your home. This can occur if the prior lender agrees to be repaid after the reverse mortgage is repaid. Generally, the only lenders willing to consider “subordinating” their loans in this way are state or local government agencies.

Debt Limit

The debt you owe on a reverse mortgage equals all the loan advances you receive (including any used to finance loan costs or to pay off prior debt), plus all the interest that is added to your loan balance. If that amount is less than your home is worth when you pay back the loan, then you (or your estate) keep whatever amount is left over.

Repayment

All reverse mortgages become due and payable when the last surviving borrower dies, sells the home, or permanently moves out of the home. (Typically, a “permanent move” means that neither you nor any other co-borrower has lived in your home for one continuous year.)

Reverse mortgage lenders can also require repayment at any time if you fail to:

  • pay your property taxes or special assessments;
  • maintain and repair your home; or
  • keep your home insured.

Conditions of Default

These are fairly standard “conditions of default” on any mortgage. On a reverse mortgage, however, lenders generally have the option to pay for these expenses by reducing your loan advances and using the difference to pay these obligations. This is only an option, however, if you have not already used up your entire available loan funds.

Other default conditions could include:

  • your declaration of bankruptcy;
  • your donation or abandonment of your home;
  • your perpetration of fraud or misrepresentation; or
  • eminent domain or condemnation proceedings involving your home.

A reverse mortgage may also include “acceleration” clauses that make it due and payable. Generally, these relate to changes that could affect the security of the loan for the lender. For example:

  • renting out part or all of your home;
  • adding a new owner to your home’s title;
  • changing your home’s zoning classification; or
  • taking out new debt against your home.

You must read the loan documents carefully to make certain you understand all the conditions that can cause your loan to become due and payable.

If you are unsure of whether or not a reverse mortgage is right for you, consult your financial institution and let family members know, so that they can support you in making an informed decision.