Reverse Mortgages: The Good and the Bad

By Family Caregiver Alliance Kathy, age 59, hates to see her mother Betty struggle with financial constraints. Since Betty’s husband passed away five years ago, her household income has been cut in half.   Kathy sees her mother struggling to pay for utilities, medication, food and other household expenses on her reduced income. While Kathy helps as much as she can, she has her own family and career to manage.

Kathy is now helping her mother investigate the benefits and risks of a reverse mortgage to provide additional income.   Reverse Mortgages were originally designed as a “last resort” type of loan to provide additional cash flow for seniors aged 62 and older who owned their own home.  However, reverse mortgages have become increasingly popular with younger seniors using the cash to subsidize retirement income or to help pay for long-term care expenses. According to AARP, about fifty percent of the people applying for reverse mortgages in today’s market are under the age of 70.

The Benefits: For a senior like Betty, a reverse mortgage could provide cash flow from the bank, based on the equity in her home either as a lump sum or line of credit. As long has she remains in the home, no payment is due on the loan and the additional cash can be used as needed.  As part of receiving the loan, Betty will need to continue paying her property taxes and house insurance, and has to keep the house in good shape.

According to Bankrate.com there are several types of “reverse mortgages.”  The Home Equity Conversion Mortgage (HECM) is a type of reverse mortgage offered by the Federal Housing Administration (FHA).  HECM loans are only offered through HUD-approved mortgage lenders, banks, and credit unions, and are the most popular, accounting for about 90% of reverse mortgages.  Meeting with a HUD-approved housing counselor is required prior to receiving a HECM loan. 

Other types of reverse mortgages include single-purpose mortgages (sometimes offered by state or local governments) and proprietary reverse mortgages. If Betty decides to move out of the home or upon her death, the bank will require the sale of the home and use the proceeds to pay off the loan as well as the fees and interests associated with the reverse mortgage.  HECM loans include insurance, which is especially important with the recent mortgage meltdown.   If the sale of her home does not cover all of the fees, the estate/family owes nothing.  If there are funds left over after paying off the mortgage, then the proceeds will go back to the heirs of the estate. Income from reverse mortgages typically doesn’t affect a senior’s social security or Medicare eligibility and can be used as the senior desires. These benefits can take the financial burden off of a family and enable a senior’s estate to pay for long-term care or living expenses when other means are not available.

While reverse mortgages can provide a financial lifeline, there are a number of issues to consider when deciding if a reverse mortgage is the best strategy for your financial situation.

Things to Consider: Fees associated with reverse mortgages can be quite high. While the interest rate is set by the government, banks may charge up to 5% of the home’s value as a “fee” that will be taken out of proceeds from the sale of the home when the loan ends. Other pitfalls include getting – and then spending – a lump sum payment too quickly, leaving seniors with no cushion if they use all of their resources.  An alternative is to set-up the mortgage so that you receive monthly payments from the bank instead of one lump sum. For seniors who are married, another issue to consider is whether or not to put both people on the loan. 

Ron Lieber, who covers personal finance for the New York Times, suggests putting both people on the loan.   Because a home is the largest asset that many people own, Lieber also suggests getting reverse mortgage counseling from at least two people from two different organizations. The National Council on Aging recently launched a new website, called “Home Equity Advisor.” The website includes information on alternatives to reverse mortgages as well as things to think about prior to getting a reverse mortgage.  After answering several questions related to your situation, including your income, amount of equity in your home, and your preferences on remaining in your home vs. moving, the website provides you with several options to consider.

Conclusion: While reverse mortgages are not the solution for every senior, they may be a savior for cash poor seniors whose income is insufficient to cover their living expenses. Resources where you can learn more:

1. AARP: Reverse Mortgage Loans Borrowing Against Your Home
2. Bankrate.com “The Ins and Outs of Reverse Mortgages”
3. HUD.Gov “FHA Reverse Mortgages (HECMs) for Seniors”