2017 Guide | What You Need to Know about Reverse Mortgage Pros and Cons
Are reverse mortgages a good deal? Are reverse mortgages bad? Is a reverse mortgage good investment? Just what is a reverse mortgage?
A reverse mortgage is a special type of home equity loan available to homeowners ages sixty-five and older. It enables you to withdraw some of the equity on your home. So, what are the pros and cons of reverse mortgages?
The amount you receive is usually not taxable and will not negatively affect your Medicare or Social Security benefits, but there are pitfalls of reverse mortgage, as fees and other costs can be much higher than for a normal mortgage.
In this article, we will reveal the truth about reverse mortgages and go through reverse mortgage pros & cons to help you decide if it’s right for you.
Types of Reverse Mortgage
Before examining the pros and cons of a reverse mortgage, we’ll try to define a few things to make it a little easier to understand. Generally, there are three types of reverse mortgage:
- Single Purpose Reverse Mortgage
- Proprietary Reverse Mortgage
- Home Equity Conversion Mortgage (HECM)
A Single Purpose Reverse Mortgage is the least expensive option, but it is not available everywhere. These loans may only be used for a sole purpose, which the lender (state and local government agencies, as well as non-profits) specifies to the homeowner. As they are extremely limiting, they may be put in the cons column of the pros and cons of reverse mortgages.
Image Source: Reverse Mortgage Pros and Cons
A Proprietary Reverse Mortgage is a private loan that is not widely available. These loans are not federally insured, which means that the lender can establish their own terms. A homeowner can have access to a much larger loan from a Proprietary Reverse Mortgage, one more thing to consider in the pros and cons of reverse mortgages.
A Home Equity Conversion Mortgage (HECM) is the largest type of loan, federally funded by the U.S. Department of Housing and Urban Development. The pros and cons of a reverse mortgage from the federal government depends on several factors. These loans are subjected to several restrictions, such as the amount of the advance, which depends on the following factors:
- Homeowner’s age
- Appraised value of the home
- Current interest rates
- Financial assessment of your willingness and ability to pay property taxes and homeowner’s insurance
- Lesser of appraised value or HECM limit
The government-funded loans (HECM) are heavily regulated, which can be either a pro or a con of a reverse mortgage loan, depending on where you are coming from.
Reverse Mortgage Pros and Cons: Are Reverse Mortgages a Good Deal?
The pros and cons of a reverse mortgage mainly depend upon your particular situation. Is a reverse mortgage good for you, specifically speaking? Are reverse mortgages bad, according to your circumstances?
The Pros: Are Reverse Mortgages a Good Deal?
The pros and cons of a reverse mortgage vary, but we will go over the pros in general terms. As mentioned previously, you do not need to make monthly payments on a reverse mortgage. Plus, you can eliminate any existing mortgage by taking out a reverse mortgage.
The minimum age for a reverse mortgage is sixty-two. Other homeowners who do not make the age minimum must either own the house outright or have a low mortgage balance that can be paid off easily with the proceeds. If these terms apply to you, the pros and cons of a reverse mortgage might lean toward pros. Practical Money Skills states the following: “Qualifying home owners also must have no delinquent federal debt, the financial resources to pay for upkeep, taxes and insurance and live in the home during the life of the loan.”
The largest personal asset retired seniors possess is usually their homes, which are often paid off by the time they retire. Not only will they get to live in their homes (as reverse mortgages require), but they will have a hefty sum to fall back on in their retirement. Out of reverse mortgage pros and cons, that would definitely fall into the former category.
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What about your kids? A reverse mortgage loan will never exceed the value of the house because it is a “non-recourse loan,” meaning that your heirs will not be saddled with a larger amount than the appraised value. The reverse mortgage must be paid off at the time of your death, but any remaining equity will be available for your heirs as you choose. The reverse mortgage pros & cons are definitely dependent on you, but in our books, this can be counted as a pro.
There is a misconception that the lender will own your home if you take out a reverse mortgage. The truth about reverse mortgages is that you still hold the title to your home – the lender cannot get their hands on it. Although they will hold a lien, which we will discuss later.
Reverse mortgage pros and cons articles often state that the government-sponsored HECM reverse mortgage is best for most people looking into taking out a reverse mortgage on their home. You can apply for an HECM reverse mortgage even if you did not buy your home with an FHA insured mortgage.
Although there is a cash limit with HECM reverse mortgages at $625,500, you can swing for a Proprietary reverse mortgage for much more. Which, of course, depends on your house. The reverse mortgage pros and cons of Proprietary Reverse Mortgages depends on the value of the house, and if you will receive more than the above.
The Cons: Are Reverse Mortgages Bad?
So, what are the pitfalls of reverse mortgage? Consumer Reports cautions that, “Reverse mortgage should only be a last resort for seniors who want to stay in their homes and have no other alternatives.” The pitfalls of reverse mortgage, just like the good, must be looked at in perspective.
Reverse mortgage pros & cons articles and reviews generally point toward the increased cost of these loans. The fees are extremely high when compared to traditional mortgages. Reverse mortgages also decrease the equity of your home, leaving less money to your heirs. Nor will your heirs be able to inherit the house itself, as it has to be given up on the event of your death.
Are reverse mortgages bad for seniors? It depends. The requirement of having to live in the house you take the reverse mortgage on can be a blessing or a curse. If you suddenly needed to move, whether due to health or to be closer to family, the reverse mortgage would be due right then and there. This is another aspect that can be considered both pros and cons of a reverse mortgage.
You are also restricted on the types of property you can take a reverse mortgage from. Vacation homes and property investments are not covered; the house must be your primary residence. This point falls into both categories of reverse mortgage pros and cons. Also, the FHA has a strict list of requirements as to which properties qualify. Mobile homes, as well as some condominiums, do not meet the requirements.
As it is your primary residence, you must pay for upkeep, including taxes, insurance, and miscellaneous maintenance fees. There is no doubt about whether fees are reverse mortgage pros or cons. Application fees are also expensive, which means you may have to pay for something you get rejected for.
Although reverse mortgages do not affect Social Security and Medicare, other programs that are based on need, such as Medicaid, may be affected. Which ties into the earlier point: if you need specialized care later in life, this may come back to bite you.
The reverse mortgage pros and cons argument is nonexistent on this point. Healthcare is a necessity you cannot do without.
On the other hand, what if you are too healthy? There is a possibility that you may also outlive your home’s equity. Huffington Post writes that reverse mortgages are “recommended generally for older seniors as part of a strategic package of financial solutions to allow them to stay in their homes as long as possible.”
Some do, however, outlive the deals in special circumstance that reveal the dark side of reverse mortgage pros and cons, as detailed by the Huffington Post:
“In October 2013, a Washington, D.C., federal court judge struck down a U.S. Department of Housing and Urban Development (HUD) policy allowing lenders to demand that surviving spouses immediately repay reverse mortgage loans when their spouse dies. Many widows and widowers were forced into foreclosure before this decision.”
Payments: How Will You Get Paid?
Payment is generally considered more of a pro in the pros and cons of a reverse mortgage, due to the flexibility of how you get paid. For most reverse mortgage plans, you can receive payment in one of the following ways:
- Modified Tenure
- Term Line of Credit
- Modified Term
For fixed interest rate reverse mortgages, you may only receive your payments in a lump sum.
Image Source: Truth About Reverse Mortgages
A tenure payment describes a system where you receive monthly payments for as long as you live in the house, or as long as you wish to live in the house. A modified tenure payment combines the regular monthly payments with a credit line, which allows you to take out as much as you wish. Both of these payment plans are clearly more positive aspects in the reverse mortgage pros and cons system.
A term line of credit allows you to withdraw from your loan when you wish. You will only be taxed on the amount you take out and will not be taxed on the remaining amount until you choose to withdraw it.
This payment type also features credit line growth, which means that the amount you can take out at a time can increase with time. The pros and cons of a reverse mortgage depend on you, and if you believe you need to limit how much you borrow, this might be right for you.
The modified term is a combination of the above, meaning you will have a line of credit in addition to fixed monthly payments. The payment method reveals the pros and cons of a reverse mortgage.
The Truth About Reverse Mortgages
Are reverse mortgages a good deal? It depends. Some say that reverse mortgages should only be used as a last resort for seniors strapped for cash. Others say it can make retirement easier for you and your own.
“Often,” Investopedia writes on the pros and cons of a reverse mortgage, “candidates are ‘house-rich and cash-poor,’ meaning they have lots of equity in their home, but not enough income coming in.” You must be careful, as it may be tempting to overspend.
“That’s why the government limits how much you can cash out in your first year,” Lending Tree writes in a reverse mortgage pros and cons post, “It’s trying to protect some home equity for future needs.”
However, most reverse mortgage pros and cons articles caution against the higher fees that come with reverse mortgages. Included are appraisal fees, recording fees, credit report fees, pest inspection fees, and flood certification fees. There are also origination fees of $2,000 or 2% of the loan, whichever is higher.
Your kids and heirs will not be able to inherit the family home either. Although the lending institution does not take the title of the home, it must be given up when the loan is due. Although the house may be yours, you may want to check with your family first to see how they would feel about giving up their childhood home. Many reverse mortgage pros and cons articles focus on the financial, rather than the personal impact of these loans.
Reverse mortgages may also impact your Medicaid benefits. According to LongTermCare.gov, from the U.S. Department of Health and Human Services, “As long as you spend the payments you receive in the month that you receive them, the money is not taxable and does not count towards income or affect Social Security or Medicare benefits.”
But LongTermCare.gov also states that if the liquid assets are more than $2,000 for an individual homeowner or $3,000 for a home-owning couple, this could make them ineligible for Medicaid. Reverse mortgage pros and cons equal out.
You also may not get as much as you hoped for. Although you may have put a lot of money into your home over the years, there is a chance that it is now worth less. Plus, that value will only decrease the longer you maintain a reverse mortgage loan.
It’s a lot to consider. The good news is that if you apply for a reverse mortgage and change your mind, you have three business days after closing to cancel your loan, without penalty.
But before you dive in, make sure you review all the pros and cons of a reverse mortgage and speak with a financial advisor to see if this loan is right for you and your spouse.
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