What Is A Reverse Mortgage?
A reverse mortgage is a low-interest loan for senior homeowners that uses a home's equity as collateral. The loan amount is a percentage of the home's value determined by the age of the youngest homeowner. The loan does not have to be repaid until the last surviving homeowner permanently moves out of the property or passes away. At that time, the estate has approximately 12 months to repay the balance of the reverse mortgage or sell the home to pay off the balance. All remaining equity is inherited by the estate. The estate is not liable if the home sells for less than the balance of the reverse mortgage.
Eligibility for a reverse mortgage (HECM)
To be eligible for a HUD reverse mortgage, the Federal Housing Administration (FHA) requires that all homeowners be at least age 62. The home must be owned free and clear or have a mortgage balance that is no more than approximately 65% of the home's value. If there is a mortgage balance, it can be paid off completely with the proceeds of the reverse mortgage loan at the closing. There are no income or credit requirements for a reverse mortgage.
Eligible home types
Almost all home types are eligible. However, mobile homes must be built in the last 30 years, the land must be owned, it must be on a permanent foundation, and it must meet an FHA inspection.
Difference between a reverse mortgage and a home equity loan
Generally a home equity loan, a second mortgage, or a home equity line of credit have strict requirements for income and creditworthiness. Also, with other traditional loans the homeowner must still make monthly payments to repay the loans. A reverse mortgage has no income or credit requirements and instead of making monthly payments, the homeowner receives payments.
With a reverse mortgage the amount that can be borrowed is determined by an FHA formula that considers age, the current interest rate, and the appraised value of the home. The older the homeowner, the lower the interest rate. The more valuable the home (up to a certain point), the higher the loan amount will be.
As stated previously, with traditional loans the homeowner is still required to make monthly payments, but with a reverse mortgage the loan is not due as long as the homeowner lives in the home. Also, with a reverse mortgage one cannot be forced to forclose or forced to vacate the home because of a missed mortgage payment. However, the homeowner is still responsible for real estate taxes, utilities, and maintenance.
Outliving the reverse mortgage
A reverse mortgage can not be outlived. As long as at least one homeowner lives in the home (keeping taxes and insurance current) the loan does not need to be repaid. Furthermore, one will never owe more than the home's value (a reverse mortgage can not become "upside down") because of the FHA insurance.
In the event of death or in the event that the home ceases to be the primary residence, the homeowner's estate can choose to convert the reverse mortgage into a traditional mortgage to keep the house or else sell the home to pay the balance (the cash borrowed, interest, and fees).
If the equity in the home is worth more than the balance of the loan, the remaining equity belongs to the heirs. No other assets are affected by a reverse mortgage. For example, investments, second homes, cars, and other valuable possessions cannot be taken from the estate to pay off the reverse mortgage.
If the sale of the home is not enough to pay off the reverse mortgage, the lender must take a loss and request reimbursement from the FHA.
The amount that is available depends on three factors: age (older is better), current interest rate, and appraised value of the home.
Distribution of money from a reverse mortgage
There are several ways to receive the proceeds of a reverse mortgage and one can mix and match as needed.
- Lump sum - a lump sum of cash at closing.
- Tenure - equal monthly payments as long as the homeowner lives in the home.
- Term - equal monthly payments for a fixed number of years.
- Line of Credit - draw any amount at any time until the line of credit is exhausted.