Reverse Mortgage Pros and Cons
Reverse mortgage is not a dirty word
A reverse mortgage is a tool – a financial instrument. There is no reason to jump to conclusions that a reverse mortgage is bad. As a matter of fact, I think for many retirees reverse mortgage pros far outweigh the cons.
One common reverse mortgage myth; many children of parents who are considering the reverse mortgage fear their inheritance may dwindle away if mom or dad takes out such a mortgage.
In fact, using up home equity instead of spending more IRA assets can actually preserve more wealth for heirs. In some cases, it can also provide additional tax benefits for heirs. For example, if the parents dictate legally they want the home to go to the kids for a future sale, the heirs will inherit the tax deduction for accumulated unpaid interest. This is one of many unknown "pros" of a reverse mortgage. More pros and cons are below.
Reverse mortgage pros
- No monthly payments required
- No income or asset requirements
- No minimum credit score
- No restrictions on the use of proceeds
- It provides tax-free income
- The loan is non-recourse: you can never owe more than the value of the property
- No personal guaranty is required
- May be titled in your trust or life estate (such as a revocable living trust or irrevocable trust)
- Provides guaranteed income for life.
- Reverse mortgage programs are federally mandated, so expenses and terms are consistent across lenders
- The government insures your reverse mortgage so if your mortgage value goes up beyond the value of your home the lender cannot take your home and you do not owe the difference, nor does your family
- When you sell your home, just as with any mortgage, the mortgage gets paid off and any additional equity belongs to you
- You can borrow somewhere between 55% and 70% of your home’s value
- Reverse mortgages do not affect your credit score
- You own the property at all times
Uses of a reverse mortgage
- As a line of credit to provide liquidity
- To reduce the risk of outliving assets
- To provide cash so you can defer your Social Security start date
- To fund long-term care insurance
- To pay off your existing mortgage and eliminate your mortgage payment
- To pay for in-home care later in life
Reverse mortgage cons
- If you move within a few years of taking out your reverse mortgage the fees you pay may not be worth the benefit you receive
- You must pay your real estate taxes and maintain the home or the loan can be called in
- You must be at least 62 to take out a reverse mortgage (for couples, age is determined by the younger of the two)
When a reverse mortgage is not a good idea
- You die tomorrow
- You move next week
- You tend to spend too much, perhaps through giving to your children and thus may end up not being able to continue to pay the property taxes one day
- If you are eligible for Medicaid, in certain cases proceeds from a reverse mortgage may affect your eligibility, so do your homework first.
When does your reverse mortgage loan become due?
- Just like any mortgage when the property is sold
- When the borrower passes away (last remaining borrower) then the estate has up to one year to pay off the loan
- When the borrower no longer occupies the home for over 12 months then you have up to one year to pay off the loan by selling the home, refinancing, or simply paying the loan off.
3 factors determine how much you can get
- Age of the borrower – the younger you are the less you can receive
- Value of the property – maximum $625,500 value used
- The type of reverse mortgage program you pick
Estimate how much you can get with a reverse mortgage calculator.
How is the cash from your reverse mortgage received?
- Lump sum
- Term monthly payments
- Line of credit
- Or any combination of the above
Some people say one reverse mortgage con is that they are expensive
If you have heard that a reverse mortgage is expensive, you need to ask "expensive compared to what"?
It is a tool to use the home equity you have. Selling the house is another tool you can use to free up home equity. Selling is expensive too. Below are estimated costs for selling a $400,000 home:
Estimated costs of selling a $400,000 home:
- Realtor @5%: $20,000
- Home repairs: $10,000
- Moving expense: $5,000
- Total: $35,000
Compare that to estimated costs for a reverse mortgage on a $400,000 home:
- HUD “MIP” @ 2%: $8,000 (this is HUD’s upfront mortgage insurance premium)
- Points (sliding scale): $6,000
- Closing costs: $3,500
- Total: $17,500
When you factor in taxes, a reverse mortgage may also cost less than liquidating investments or withdrawing excess funds from an IRA.
Remember, before you do a reverse mortgage, do your research and make sure you understand how it works. As long as understand it, there is no reason it should be considered bad or dangerous.