How a Reverse Mortgage Works for Seniors

Are you a senior who owns a home and is considering using a reverse mortgage to help create/supplement income in your golden years?

Like any financial decision, before concluding that a reverse mortgage is the right choice, seniors must understand the facts about these unique mortgages, which can be innovative financial instruments for the right person or financial situation. There are many aspects & relevant factors to consider before making any final decisions as to whether a reverse mortgage option can be the right choice for your specific situation.

To begin, senior homeowners must meet both borrower and property eligibility requirements.

Borrower Requirements for Reverse mortgages

To be eligible to secure a reverse mortgage, borrowers must meet these established requirements –

• Be at least 62 years of age.
• Actively participate in an information session with a HUD-approved reverse-mortgage housing counselor/specialist that is specifically designed to educate consumers about the nuances and potential consequences of reverse mortgages.
• Own a property that is free & clear, or a property with significant equity., preferably more than 50% equity in the primary residence.
• Occupy the property as a primary/principal residence.
• Verify sufficient resources that demonstrate a borrower’s ability to make other household obligations and debt on time (HOA or property taxes).
• Document that they are not delinquent on a federal debt of any kind.
• Financial requirements include the verification of the borrower’s income assets, mortgage/tax payment history, and overall credit profile.

Property Requirements for Reverse Mortgages

In addition to meeting every Federal Housing Administration (FHA) property and flood standard, reverse mortgages must comply with these additional requirements –

• An owner-occupied single-family or multi-unit (2 to 4 families).
• If the property is a condominium, the project must be HUD-approved, individual condominium units required to meet s set of ‘condo-unit-related’ requirements.
• Manufactured homes must meet FHA’s current underwriting guidelines and requirements.

Many essential facts seniors must consider regarding reverse mortgages extend far beyond the ‘nuts and bolts’ guidelines noted above. These are discussed next.

Reverse Mortgages Operate Differently from More Tradition Home Loans.

The mortgage industry’s technical phrase for a reverse mortgage is a Home Equity Conversion Mortgage (HECM and the term reverse mortgage are used in this narrative interchangeably hereinafter). As its name states, a reverse mortgage is a financial instrument that allows qualified homeowners to convert existing equity in one’s property into a stream of cash payments to a homeowner. However, unlike its more traditional counterpart mortgages, reverse mortgages do not require any repayment until –

• The borrower(s) no longer live in the property as a primary residence.
• The borrower fails to meet the requirements set forth by the executed mortgage instrument.

Borrowers must receive reverse mortgage counseling to close this highly specialized mortgage.

A reverse mortgage is a tremendous, challenging decision. This is the reason why Federal law mandates that anyone who is considering a Home Equity Conversion Mortgage (HECM, or reverse mortgage) meet with a HUD-approved counselor/agency as a requirement to close the mortgage.

Borrowers, when considering this type of mortgage, must somehow estimate (and in some instances, simply guesstimate) –

• How long they intend to live on the property
• The funds required to finance retirement over the long-term.

The counseling/educational session with the HECM-trained financing professional is the opportunity for senior homeowners to fully understand the features and the costs of the various reverse mortgage products. HECM counselors can also help borrowers understand the pros/cons of reverse mortgages based on other available options and your financial situation’s specifics.

The HECM counselor is also tasked with the responsibility is helping seniors weigh the long and short-term benefits and responsibilities of reverse mortgages. HECM counselors will never call unsolicited; seniors are advised to report potential scams to HUD.

The HECM counseling session is also an excellent opportunity to learn about available private and public benefits that may help senior homeowners live and remain independent as long as they wish. HECM counseling has gone high-tech and is now available by telephone and virtually, and when permitted, face to face in many communities across the nation. Also, borrowers can locate a HECM counselor in a specific area using the HUD HECM Counselor Roster.

The Consumer Financial Protection Board offers comprehensive online resources (including a library of video resources for homeowners considering reverse mortgages) for consumers on the CFPB website.

Determining Mortgage Amounts for HECM/Reverse Mortgages.

The United States Department of Housing & Urban Development and the Federal Housing Administration back the HECM – the most popular of the available types of reverse mortgages in the marketplace. [It is noted that there are private market reverse mortgages – primarily designed for a reverse mortgage-niche market in which home value far exceeds HECM lending limits. The following narrative focuses on federally insured HECM products.]

The amount a senior homeowner may borrow will depend upon several factors. These include –

• The age of the youngest reverse mortgage borrower or an eligible non-borrowing spouse.
• Current interest rates.
• The lesser amount of these –
  • The property’s appraised value.
  • The HECM FHA limit of $ 822,375, which has been increased effective January 1, 2021, is applicable in all areas, including FHLMC’s exception areas of Hawaii, Alaska, the Virgin Island, and Guam. The HECM limit is calculated as follows – 150% of Freddie Mac’s limit for conforming loans – $548,250.
  • The property’s sales price – for purchases only.

A HECM loan is available as a fixed-rate or an adjustable-rate mortgage.

Fixed-rate reverse mortgages offer the most straightforward option with a single disbursement to the senior homeowner and lump sum payout, as agreed. This is a valuable option in low-interest-rate environments, like current interest rates.

Adjustable-rate reverse mortgages are a bit more complex – like all adjustable-rate mortgages, and include these important and relevant loan payment loan plan options –

• A term plan – with equal monthly payments for a predefined number of months.
• A tenure plan – with equal monthly payments that continue until at least one of the borrowers is alive and continues to live in the property as their primary residence.
• A line of credit plan – with unscheduled payments/installments as defined by the borrower up and until the line of credit hits its maximum limit. The HECM line of credit option is a great tool to help seniors prepare for the future without using the funds today, especially if they can take advantage of a low rate environment.
• A modified term plan – this offers homeowners a combination of the line of credit plus the receipt of monthly payment for a fixed number of months as defined by the homeowner.
• A modified tenure plan – this offers homeowners a combination of the line of credit plus the receipt of monthly payments until one of the borrowers no longer occupies the subject property as a principal residence.

The HECMs adjustable rate products are based on the current LIBOR (London Inter-Bank Offer Rate), an interest rate benchmark that is used globally by lenders, borrowing money from one another for short-term purposes. Borrowers who opt for adjustable-rate reverse mortgages have the opportunity to change the monthly amount disbursed, but leave themselves open to upwards interest rate adjustments in the future.

Reverse mortgages, like other home loans, have closing costs to consider.

One of the essential aspects in determining if a reverse mortgage is the right mortgage product for your situation is to review the costs required to obtain financing.  Like most financial products, reverse mortgages require homeowners to these fees & expenses, among others –

• The HECM Counseling Fee – while this may be waived under certain circumstances, the typical fee for this counseling session is $125, but prices do vary.
• Lender Fees – like traditional mortgages, reverse mortgages typically require the payment of lender origination fees, which the lender uses to cover the cost of the loan processing. Origination fees are typically $2,500 or 2% of the first $200,000 – the greater of the two values – plus 1% of the property’s value beyond $200,000. Note – the Federal Housing Administration maxes out allowable origination fees at $6,000.
• Closing Costs – these fees may vary but include the home/pest inspection and appraisal fee, plus the costs of escrow services, flood certificate, and credit checks, to name a few. Shopping around among competing lenders can help you save on these fees.
• Interest Payments – as its name suggests, a reverse mortgage balance will grow rather than shrink. Interest earned is added to the loan balance, along with disbursed amounts. Interest due is typically a concern for one’s heirs or the estate’s managers.
• Upfront Mortgage Insurance – the FHA’s Mortgage Insurance Premium (MIP) is paid at loan closing and ensures borrowers receive the anticipated agreed-on payments, and when the loan become due, the responsible party is not required to repay more than the home’s value, even if the loan balance exceeds the property’s current appraised value.

The upfront Mortgage Insurance Premium is equivalent to 2% of the property’s appraised value. For instance, a home with a value of $450,000 would require an MIP of $9,000 = .02 x 450,000.

A reverse mortgage is recognized as a non-recourse loan, which essentially means that if the property sells for a price that is less than the loan balance, the estate or heirs will not be obligated to make up the difference. Conversely, if the property sells for a price that exceeds the loan balance, the funds are given to the owner, the estate, or the estate’s heirs.

• Annual Mortgage Insurance – reverse mortgages require an annual mortgage insurance premium that is equal to .5% of the senior homeowner’s loan balance. Note that reverse mortgage balances typically increase over time, which means that seniors with reverse mortgages should expect to see their annual mortgage insurance increase respectively.

Perhaps the most debated topic regarding closing costs concerns whether makes fiscal sense to finance the costs associated with a reverse mortgage. For some seniors, there would be no debate, as their financial situation would not permit them to pay the costs out of pocket. However, for those senior homeowners who may have the financial resources to cover these costs, consider these relevant financial strategic points –

• If a borrower has enough of a cash cushion to pay for costs from savings, one may consider this option because, in the long run, the cost of the loan (when financing closing costs) will inevitably increase because these costs are added to the loan balance at the outset and remain until the loan is paid in full.
• Borrowers who finance the reverse mortgage’s closing fees will find the amount of the equity available to borrow will reduce as well, according to the CFPB.

Reverse mortgages should never be used as a last resort.

As previously noted, deciding to take out a reverse mortgage is a huge decision with far-reaching financial and legal consequences. As such, using a reverse mortgage while facing stressful or challenging financial situations should be the last moment in time one should make a financial decision.

A reverse mortgage was developed as an option for financial planning, not as a crisis management technique.

Those borrowers who choose a reverse mortgage can face foreclosure.

Reverse mortgage borrowers can face the possibility of foreclosure if they fail to meet the obligations of their insurance premiums, property taxes or they do not maintain their home in acceptable condition. This unfortunate situation usually happens when the reverse mortgage is used to salvage a dire situation, but only for a temporary while.

Are you interested in our available reverse mortgage programs?

Please give our mortgage specialists a call at 866-696-7578 or reach out to us 24/7 online using our contact form. If you are ready, apply online.