Removing equity from your home through a reverse mortgage seems to go against the American dream of living proudly in a fully paid-up home.
This, combined with the bad reputation that reverse mortgages have sometimes had, is why most people are hesitant to pursue these loans.
But over the past decade, the US Department of Housing and Urban Development has tightened regulations to protect consumers.
“Like any financial product, reverse mortgages can be a great tool,” says Jennifer Fraser of GreenPath Financial Wellness, a nonprofit financial counseling service. “They work well for some people and don’t work for others.”
A reverse mortgage is a compound interest loan. But unlike a traditional mortgage, you or your estate pay the principal and interest when the loan ends.
Home Equity Conversion Mortgages (HECM) are the only federally insured reverse mortgages and have strict requirements.
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You must be 62 or older, and as of 2022, the loan cannot be based on a home value greater than $970,800, even if the home is worth more.
Generally, you must have at least 50% equity in the home, which must be your primary residence. (In addition to HECMs, a small number of private reverse mortgages are available in some states through specific lenders. Typically, private reverse mortgages are best suited for someone under age 62 who owns a great value.)
The lender repossesses a home when the borrower dies or moves for more than a year, but the heirs are entitled to the residual equity in the home and can even use it to pay off the reverse mortgage and get the home back. With a reverse mortgage, you or your heirs cannot owe more than the fair market value of the home.
Borrowers should receive counseling on HUD-approved sites before entering into a HECM. Still, some people don’t know what a reverse mortgage is, says Cora Hume, an attorney at the Consumer Financial Protection Bureau. “If people release a product and don’t understand it, that’s a problem.”
About 40% of potential applicants who go through loan counseling decide not to continue, says Steve Irwin, president of the National Reverse Mortgage Lenders Association. Expenses are a factor. Reverse mortgage fees, which are usually built into the loan, can be high.
Reverse mortgages themselves can be repaid in four different ways: a lump sum when taking out the loan; equal monthly payments as long as at least one borrower continues to use the home as their principal residence; equal monthly payments over a fixed period; or a line of credit that can be used until the money runs out.
Only the lump sum payment option entitles you to a fixed interest rate. Everything else has a variable rate.
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