Let’s chat about reverse mortgages. If you’re not up to date on your lender lingo, you may be asking yourself ‘what is a reverse mortgage?’ A reverse mortgage is a loan based on the current paid-up value or equity in your home. Instead of making a monthly mortgage payment, your lender can use your equity to pay you a set monthly amount, provide a credit line for you, or pay out a lump sum to you. While gaining access to this money sounds great, it’s essential to understand how a reverse mortgage works to avoid any pitfalls.
So, how does a reverse mortgage work? When you have a regular mortgage, you pay the lender every month so you can eventually own your home outright. With a reverse mortgage, you get a loan in which the lender pays you. Reverse mortgages use part of the equity in your home and convert it into payments to you. You do not need to pay back this loan until you move, sell the home, or pass away. When you (or your heirs) sell the home, the reverse mortgage loan balance is deducted from the proceeds of the sale. Any balance remaining from sale proceeds reverts to you or your heirs.
Now the big question is ‘how do I qualify for a reverse mortgage?’ Prepare to shop around for the right type of reverse mortgage to suit your situation. If you meet all of these qualifications, a reverse mortgage might meet your needs:
1) The primary loan holder must be age 62 or older – your spouse may be younger.
2) You must own your home outright or have just one mortgage in which you are the borrower.
3) You’ll be required to pay off the existing mortgage using the proceeds from your reverse mortgage.
4) The home must be your primary residence.
5) You must be current on all property taxes, homeowners’ insurance, and other mandatory legal obligations (like HOA dues).
6) You must attend a consumer information class led by a HUD-approved counselor.
7) Your home must be maintained and in good condition.
8) The home must be a single-family home, condo, townhouse, manufactured home built after June 1976, or a multi-unit property with up to four units.
Let’s take a look at the 3 reverse mortgage types:
Single-purpose reverse mortgages: These are offered by some state and local government agencies and nonprofits. For a single-purpose reverse mortgage, the lender specifies how loan proceeds must be spent. For example, you may only be able to use the funds for property taxes or home repairs. This is the least expensive type of reverse mortgage, and low and moderate-income homeowners can often qualify.
Home Equity Conversion Mortgages (HECMs): HECMs are reverse mortgages backed by the Department of Housing and Urban Development (HUD). You can use proceeds from a HECM for any purpose. This type of loan will be more expensive than a single-purpose reverse mortgage or traditional home loan, including high closing costs. If you plan to stay in your home for a long time, the upfront costs are less of an issue.
Proprietary reverse mortgages: These loans are offered by private lenders. You may be able to get a larger loan from a private lender if you own a high-value home over $500,000. These loans are more expensive than single-use loans and similar to HECMs.
HECM costs include:
Mortgage Insurance Premium (MIP): This mortgage insurance guarantees that you will receive expected loan advances. You can finance the MIP as part of your loan. Initially, you will be charged 2% of the loan amount for MIP at closing. This is followed by an annual MIP equal to 0.5% of the mortgage balance over the loan’s life.
Third-party Charges: Third-party costs include an appraisal, title search and insurance, surveys, inspections, recording fees, mortgage taxes, credit checks, and other fees. These costs are paid at closing.
Origination Fee: Like any mortgage, the lender gets paid to process your loan. A lender can charge the greater of 2% of the first $200,000 of your home’s value + 1% of the amount over $200,000 or $2,500. All origination fees are capped at $6,000.
Servicing Fee: Service fees over the term of the loan cover services that include sending the account statements to you, paying property taxes and insurance on your behalf, and disbursing loan proceeds. If the loan has an annual adjusted interest rate or a fixed interest rate, the service fee caps $30 per month. If your interest rate adjusts monthly, the monthly service fee caps at $35.
At loan closing, the lender deducts the first servicing fee from your available funds and then adds each monthly servicing fee to your loan balance. Alternatively, lenders may include the servicing fee in the mortgage interest rate by charging a higher rate.