It’s not uncommon for older homeowners to have a large amount of their net worth tied up in the equity in their home.
This money can be accessed through products such as a Home Equity Loan or Home Equity Line of Credit (HELOC), but both options will need to be paid back in the form of monthly installments.
Retired homeowners may not be able to afford that or simply don’t want the additional costs in retirement.
A reverse mortgage is another option for accessing equity in a home. Not only does it eliminate any monthly mortgage payments, but it also gives homeowners a handful of options for how they would like to receive the cash.
This complete guide to reverse mortgages will walk you through everything you need to know about this unique financial tool.
Table of Contents
Chapter 1: Reverse Mortgage Basics
In this section, we cover all the basics of a reverse mortgage. This includes what it is, how it works, the rules and requirements, and more.
What is a Reverse Mortgage?
A reverse mortgage is a type of loan only available to homeowners who are 62 years of age and older.
The most common type of reverse mortgage is the Home Equity Conversion Mortgage (HECM), which is backed by the federal government. It is insured by the Federal Housing Administration (FHA) and regulated by the U.S. Department of Housing and Urban Development (HUD).
In the case of a reverse mortgage, or HECM loan, the funds from the mortgage will pay off the current traditional mortgage, if there still is one, and eliminate monthly mortgage payments.
If there are remaining funds, after the mortgage is paid off, borrowers will have a choice for how they will receive their money. They can receive their funds as lump sum, monthly payments, a line of credit, or a combination of those options.
How Does a Reverse Mortgage Work?
A reverse mortgage is a loan just like a traditional mortgage that is taken out against the equity that the principal property has incurred.
The equity is converted into cash that the lender can then give to the borrower in the form that they choose.
Reverse mortgage balances accrue interest just like with a regular mortgage. With a reverse mortgage, you are only charged interest on the money you receive. For example, if a borrower opts to receive their money as a lump sum, they will be charged interest on the entire amount.
If a borrower chooses a monthly payment plan or a line of credit, they will only be charged interest on the money they receive, not the entire balance. The unused funds that are part of a line of credit will accrue interest.
The biggest difference between a traditional mortgage and a reverse mortgage is how the loan is paid back.
Instead of paying off a reverse mortgage loan with monthly payments like a regular mortgage, the reverse mortgage loan balance becomes due when the home is no longer the primary residence of the borrower, the homeowner decides to sell the home, or when the homeowner passes away.
There are no prepayment penalties if a borrower decides to pay back the loan in advance.
Learn more! Click here to learn more about what a reverse mortgage is and how it works.
Reverse Mortgage Requirements and Rules
Not everyone can take out a reverse mortgage. There are some basic reverse mortgage requirements to know about before applying.
In order to obtain and keep a reverse mortgage, the borrowers must agree to the following obligations:
- To keep the home in good repair (as defined by the Federal Housing Administration, or FHA)
- To pay property taxes
- To pay homeowner’s insurance
- To live in the property as their primary residence
Compared to a traditional mortgage, income, employment, or good credit are not required to be approved for a reverse mortgage.
How to Qualify for a Reverse Mortgage
In order to qualify for a reverse mortgage, borrowers must meet some very specific requirements:
- At least one of the borrowers must be 62 years old or older
- The property must be their primary residence
- The home must have substantial equity built up
- The property must be a single-family residence, an FHA approved condominium, a townhouse, a manufactured home that meets certain requirements, or a two to four-unit property in which the borrowers occupy one of the units.
- The home needs to be in good condition
- The borrowers will need to show that they are able to continue to pay for the property taxes, homeowners’ insurance, HOA fees, and maintenance costs.
If you have questions about whether you qualify, the best way to get all your questions answered is to talk to one of our reverse mortgage specialists by going here.
Reverse Mortgage Types
There are three types of reverse mortgages:
- Home Equity Conversion Mortgage (HECM). The HECM reverse mortgage is the most common type of reverse mortgage offered by lenders. HECM loans are also federally insured mortgages. These reverse mortgage loans have a FHA lending limit of $1,089,300 for 2023.
- Proprietary Reverse Mortgage. Many lenders will also offer proprietary reverse mortgages for those who have homes that are worth more than the FHA lending limit. These are typically jumbo loans that go by unique names. At Mutual of Omaha Mortgage, we offer the HomeSafe Reverse Mortgage which allows homeowners to borrow up to $4 million.
- Single-Purpose Reverse Mortgage. Homeowners obtain single-purpose reverse mortgages through state and local governments. In some cases, these loans are also offered through non-profit organizations. They may only be used for a single purpose that is lender-approved. Typically, a single-purpose reverse mortgage is used toward property taxes, home insurance premiums, home repairs, and renovations.
Most reverse mortgage lenders will offer the following reverse mortgages:
- HECM Reverse Mortgage. This is the standard reverse mortgage product that is insured by the FHA. It pays off the current mortgage and gives homeowners cash as monthly payments, a lump sum, and/or a line of credit.
- HECM for Purchase. A HECM for purchase allows homeowners to use a reverse mortgage to buy a new home. This is a good option for homeowners who are looking to relocate and want the benefits of a reverse mortgage.
- Jumbo Reverse Mortgage. If homeowners want or need more cash than what they are able to obtain through a traditional reverse mortgage, another option is a jumbo reverse mortgage.
An FHA insured loan means that a borrower is protected if the lender goes out of business or if the value of the home is not enough to cover the loan when it comes time to sell the home.
Chapter 2: How to Use a Reverse Mortgage
Now that you know the reverse mortgage basics, find out how much you might be able to get from a reverse mortgage, and what you can use a reverse mortgage for.
How Much Money Do You Get from a Reverse Mortgage?
The reverse mortgage loan amount that you can expect to receive is based on several factors including:
- The home value based on a current home appraisal
- Current interest rates
- The age of the borrower(s)
- The type of reverse mortgage
The FHA puts a lending limit on reverse mortgages. The current lending limit for an FHA insured loan in 2023 is $1,089,300.
You can borrow beyond the FHA limit through lenders that offer jumbo loans that are not FHA insured. At Mutual of Omaha Mortgage, this is known as our HomeSafe Reverse Mortgage.
A HECM calculator may provide homeowners with more specific numbers of what they might receive from a reverse mortgage.
What Can a Reverse Mortgage be Used For?
How the money from a HECM loan is used is entirely up to the homeowner. However, here are some common ways homeowners have used their reverse mortgage proceeds:
- Pay off debt
- Pay monthly bills
- Pay medical bills
- Create a financial safety net
- Make home renovations
- Help loved ones
- Extend retirement assets
- Take vacations
Reverse Mortgage for Purchase
Qualifying homeowners may also be able to use a reverse mortgage to purchase a new home. This is known as a reverse mortgage for purchase or HECM for purchase.
While some older homeowners want to retire in place, there is also a large share that want to relocate in retirement. They may want to upsize, downsize, move to be closer to family, or move to a warmer climate. A HECM for purchase gives them that option without having to take on monthly mortgage payments.
This is how it works:
- The homeowners will sell their current home.
- The money they receive from the sale of that home will be used to make a large down payment (typically 50% to 60%) on the new home.
- The remaining balance will be financed with a reverse mortgage.
Can You Use a Reverse Mortgage as a Retirement Tool?
A reverse mortgage used to be viewed as a financial product to turn to as a last resort, but that is no longer the case. Retirement planning experts are now recommending that older homeowners start looking at adding a reverse mortgage to their retirement portfolios earlier rather than later.
Here are some reasons to consider adding a reverse mortgage to your retirement portfolio:
- Retirees are able to increase their cash flow by eliminating monthly mortgage payments.
- A reverse mortgage can serve as a source of funds during an economic downturn so that retirees aren’t accessing their retirement investments when they are at a low. This is especially important now as we are experiencing record inflation.
- If reverse mortgage borrowers opt to receive their funds as a line of credit, the money can be used to cover unplanned expenses.
Want to learn more? Click here to learn more about whether or not a reverse mortgage is a good idea.
Chapter 3: Reverse Mortgage Costs and Fees
Learn all about the costs and fees you can expect to pay as part of a reverse mortgage.
What are the Costs, Rates and Fees of a Reverse Mortgage?
There are two types of interest rates homeowners can expect with a reverse mortgage:
- Fixed-rate mortgage. With a fixed-rate reverse mortgage, the interest rate will be the same throughout the life of the loan.
- A variable-rate or adjustable-rate mortgage. A variable rate reverse mortgage has a change of up to 2% that happens periodically. However, the rate can never go up more than 5% over the starting rate due to a lifetime cap.
If a borrower decides to receive the funds from the loan as a lump sum payment, the loan will have a fixed rate.
If the money is received as monthly payments or a line of credit or some sort of combination of a lump sum, monthly payments, and a line of credit, the loan will have an adjustable rate.
Reverse mortgage interest rates work differently compared to traditional mortgages. For example, with a regular mortgage, your credit score will impact your interest rate. This is not the case with a reverse mortgage. With a reverse mortgage, your credit score neither affects your interest rate nor your ability to qualify for a reverse mortgage.
Costs and Fees
Just like traditional mortgages, reverse mortgages do come with costs and fees. These will vary with each lender, but these are the costs and fees homeowners can expect to pay:
- Origination fees. These fees are paid to the lender, and they cannot be more than $6,000.
- Closing costs. These costs are typically paid to third-party vendors and include fees for the following purposes: appraisals, recording fees, title search, credit checks, surveys, mortgage taxes, inspections, and others.
- Mortgage insurance premiums. These are charged when the loan is initiated and annually throughout the life of the loan. These charges go to the FHA, and they ensure that the homeowners receive their loan advances. It also helps make up the difference at the end of the loan to make sure the homeowner does not have to pay more than the property value. The annual premium is 0.5% of the loan’s balance.
- Servicing fees. These fees are charged by the lender for servicing the loan. These fees cover the costs of sending monthly statements, distributing funds, and ensuring that the loan requirements are met throughout the life of the loan.
The fees and costs can be paid upfront or can be covered by the loan.
Homeowners must also continue to pay the costs necessary for maintaining the home, since the title remains in the homeowner’s name. These include property taxes, insurance, utilities, repairs, and anything else necessary to maintain the home.
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Reverse Mortgage Terms
Traditional mortgages typically come with 15-to-30-year terms in which borrowers must repay the loan. With a reverse mortgage, there is no set term length.
Reverse mortgage loans do not have to be repaid until the homeowner leaves the home permanently, whether it’s because he or she decides to sell the home, or the homeowner becomes deceased.
Chapter 4: Reverse Mortgage Application Process
Applying for a reverse mortgage is a unique process. In this section, we will cover all the steps you can expect when applying for a reverse mortgage.
What is the Reverse Mortgage Application Process?
The first thing to note about the reverse mortgage application process is that it is not fast. Obtaining the cash from a reverse mortgage can take up to 45 days.
While the exact process may vary from lender to lender, here’s a general rundown of the reverse mortgage loan process that a borrower can expect:
- Step 1: Talk to a reverse mortgage advisor. In this step, homeowners will connect with a reverse mortgage professional for an initial discussion. They may receive an estimate of what they can get with a reverse mortgage.
- Step 2: Meet with an independent counselor. This is a required step in order to officially file an application. Homeowners must meet with a third-party HUD approved counselor who is not associated with the mortgage lender.
- Step 3: Submit the application. In this step, the homeowners will complete the application and sign disclosures with the assistance of the reverse mortgage broker.
- Step 4: Home appraisal. The home must undergo an appraisal to assess the condition and value of the home.
- Step 5: Processing. In this step, the homeowners wait while the loan file is submitted for processing and underwriting. The reverse mortgage broker may come back to the homeowner with questions from the underwriter.
- Step 6: Closing. Once the documents are processed and approved, a closing date will be scheduled to sign all necessary documents.
- Step 7: Receive funds. After three business days, the funds will be released in the manner the homeowner chose when filing the application: a lump sum, a line of credit, monthly payments, or a combination of the three.
Right to Cancel
Homeowners can cancel a reverse mortgage at any time during the application and processing phase without facing penalties. This includes three business days after the closing documents are signed.
In order to cancel a reverse mortgage, it must be done in writing. The written request must also be sent by certified mail and a return receipt needs to be requested.
After the cancellation request is made, the lender must return any money paid by the homeowners within 20 days.
It is recommended that homeowners keep all relevant documents and communications in case the cancellation is contested.
Click here to lean more about how to apply for a reverse mortgage.
Chapter 5: Reverse Mortgage Pros and Cons
In this section, we dive into the pros and cons of a reverse mortgage. Understanding the pros and cons is also key to knowing if the reverse mortgage product is the right choice for you.
What are the Pros and Cons of a Reverse Mortgage?
Before applying for a reverse mortgage, homeowners should thoroughly weigh the pros and cons. Below are some of the pros and cons of a reverse mortgage.
- Homeowners can retire in place
- Homeowners are able to increase their cash flow in retirement
- Homeowners are able to eliminate mortgage payments
- Homeowners have several options for receiving funds
- The reverse mortgage funds can be used at the homeowner’s discretion
- Homeowners are able to receive other sources of income in addition to the reverse mortgage
- Homeowners are unable to leave their home free and clear to their heirs
- Homeowners must continue to pay taxes, insurance, and maintain the home
- Reverse mortgages typically come with high fees and closing costs
- The balance of the loan increases over time
Chapter 6: Reverse Mortgage FAQs
In this section, we cover some common questions homeowners have about reverse mortgage.
Are Reverse Mortgage Payments Taxable?
The money received from a reverse mortgage is not taxable. Because the money received from a reverse mortgage is a “loan advance” and not income, it is not taxed.
How Do You Pay Off a Reverse Mortgage?
Unlike traditional mortgages, a reverse mortgage is not paid by making monthly mortgage payments.
Most reverse mortgages are paid off when the home is sold. The money made from selling the home is used to pay the loan balance.
Borrowers are allowed to make early payments without penalty, if they want, but it is not required.
Who Owns the Home?
One common misconception about reverse mortgages is that the bank owns the home, but this is not the case.
The title continues to remain in the name of the borrower. In addition, the borrowers are still responsible for maintaining the home, paying the property taxes, paying for homeowners insurance, and any other costs such as utility expenses.
What Happens to a Reverse Mortgage When You Die?
One of the most common questions about a reverse mortgage is what happens to the reverse mortgage after a homeowner dies. If a homeowner with a reverse mortgage dies before selling the home, the heirs of the estate have two options:
- Option One: They can sell the home, repay the loan balance and keep any of the remaining equity.
- Option Two: They can keep the home by repaying the loan, possibly by refinancing it into a new mortgage.
Because of the reverse mortgage’s non-recourse feature, the homeowners or their heirs will never owe more than 95% of the home’s appraised value, even if the balance of the loan exceeds this amount. This means that if the home appraises for less than the loan balance, 95% of that amount is all that needs to be repaid.
Are Heirs Responsible for Reverse Mortgage Debt?
The children or heirs of homeowners with a reverse mortgage are still able to inherit the house in the same way they would with a house with a traditional mortgage.
The decision that heirs will have to make is how to pay off the reverse mortgage loan. Typically, heirs will sell the home to pay back the lender. Any leftover money will go to the homeowner’s estate.
Because reverse mortgages have what is known as “non-recourse protection,” heirs will never have to pay the lender more than the value of the home.
Is a Reverse Mortgage a Scam?
While a reverse mortgage is a legitimate financial product, unfortunately there are scammers out there trying to take advantage of eligible homeowners.
First, it’s good to be aware of some of the common scams out there that homeowners may run into:
- VA Scams. Some scammers try to pose as workers for the Department of Veterans Affairs (VA). One way to know this is a scam is that the VA does not offer reverse mortgages. Some mortgage lenders offer special discounts for military members, but this does not mean the VA has any connection with the lender or the loan.
- Contractor Scams. Homeowners should avoid contractors who try to pressure them into getting a reverse mortgage to pay for home repairs.
- High-pressure sales tactics. Reverse mortgage brokers are there to educate and answer any questions that homeowners may have about HECM loans. Homeowners should avoid brokers that make them feel pressured into taking out the loan as well as how to spend the money, especially if the broker wants the homeowner to put the money into another financial product the broker will benefit from.
Second, another way to avoid a reverse mortgage scam is to ensure you are working with a reverse mortgage lender who has a good reputation among its customers and unbiased third-party review business review platforms such as the Better Business Bureau.
Chapter 7: Is a Reverse Mortgage Right for You?
If you meet all the requirements and you’re starting to see how a reverse mortgage may be the right option for you, the next step is to talk to one of our reverse mortgage specialists.
A reverse mortgage is not the right choice for everyone, but it may be a good option for those who are near or in retirement and find themselves in one or more of the following situations:
- You have significant equity in your home, and you want to remain in the home for at least five years.
- You don’t have enough retirement savings and need additional retirement income.
- You will be able to continue to pay the property taxes, insurance, and other costs necessary for maintaining the home
- You want to have additional funds on hand that you can use toward unplanned expenses.
- You are living on a fixed income such as Social Security and need to supplement your income.
- Your home needs major upgrades or renovations.
- You simply want more peace of mind.
And there may be many other reasons why homeowners may decide to pursue a reverse mortgage. Your reason for wanting a reverse mortgage is unique to you.
Before making this decision, it is recommended that you talk to your family members and financial advisor.
If you are ready to get the process started, go here to be connected to one of our top-rated reverse mortgage specialists.