What is a Reverse Mortgage?
There’s no doubt that one of the greatest frustrations of the baby boomer crowd, as they move into the retirement phase of their lives, is that a dollar just doesn’t buy what it used to. In fact, between cutbacks in company pensions, an uncooperative stock market, and a surprising spike in the cost of living, many are being forced to consider postponing their retirement. Even worse, many in retirement are having to consider a return to work!
If this reality has recently smacked you or a parent between the eyes, don’t panic quite yet. The use of a reverse mortgage may be just what the doctored order - additional monthly income without requiring any major life changes. Interested?
What is a Reverse Mortgage ?As the name implies, a reverse mortgage systematically takes money out of your house instead of you paying into your house. Put another way, it’s like borrowing against your home on a monthly basis with a few nifty details thrown in.
The most attractive feature for the typical reverse mortgage borrower is that they get to access the net worth tied up in their home, without having to sell it. For many, a home is simultaneously their largest asset and also the least liquid. The idea of having to move to access its value is unbearable and paralyzing for many people.
Further, reverse mortgages offer a level of stability that a standard home equity line of credit does not. Even though HELOC’s may offer immediate access to a significant portion of a home’s value, it does nothing to assure the borrower will have sufficient money 10, 20, or 30 years down the road. Many borrowers who have used a HELOC to meet their income needs eventually find that their credit line has "maxed out," usually right at an age when going back to work becomes impossible.
But, because of the way a reverse mortgage is structured, a borrower continues to receive monthly payments until both spouses no longer live in the house (usually due to death or relocation). In most cases, they continue to receive this payment even if there is no equity left in their home. For many, that kind of predictability is far preferable to the unknowns associated with a classic HELOC.
Is a Reverse Mortgage Really a Loan?Since a reverse mortgage pays you from the equity you’ve built up in your home, it’s easy to get confused and think that a reverse mortgage isn’t really a loan. But make no mistake about it, a reverse mortgage is a loan that accrues interest and must be paid off eventually, just like any other mortgage. It just goes about the loan process in the reverse order of a traditional mortgage.
Typically, when you take out a mortgage to buy a home, you borrow a large amount of money and then chip away at the balance with each monthly payment you send in. A reverse mortgage however, starts with a zero balance and slowly adds to it each month, as you receive each payment. In both cases, interested is computed on the amount owed and added to the balance.
Just like a traditional mortgage, the loan that backs the reverse mortgage must eventually be paid off. This usually happens in one of a number of ways. Most often, the reverse mortgage borrower moves (often into a full-time care facility) and they sell their home. The proceeds from the sale go towards paying off the reverse mortgage, with anything extra going back to the homeowner. In the event that the homeowner eventually dies while still occupying the property, the heirs can sell the property and keep anything left after paying off the loan, or they can refinance the home with a traditional mortgage and begin making payments.
In the less than common (but often dreamt about) case where a home covered by a reverse mortgage is actually worth less than what is owed when an owner dies, the excess amounts paid out become a loss to the lender. In other words, if a borrower uses a non-recourse reverse mortgage, a bank cannot go after the their other assets when they die. The bank must simply take the house, sell it, and absorb any loss between what the house was worth and what they were able to sell it for.
This Is Just The Beginning…If you are considering a reverse mortgage, this article is just the beginning of some serious homework that needs to be done on your part. Be sure to spend some time exploring the other articles on our site as well as talking to a trusted professional.