According to the 2018 Retirement Confidence Survey from the Employee Benefits Research Institute, workers are increasingly confident that they can live comfortably in retirement. However, at the same time, there are concerns from actual retirees about their ability to handle basic expenses going forward.
So, what happens when you run into a retirement funding gap? If you’re struggling to meet your retirement expenses, one option for homeowners is the reverse mortgage.
What is a reverse mortgage?
At its core, a reverse mortgage is a home equity loan. You receive money, based on your home’s equity and other factors, and you’re expected to repay it. However, instead of making regular monthly payments to the lender, you receive the money and you don’t have to pay it back until you move out of the house or pass on.
In many cases, you can get a loan that complies with Federal Housing Administration (FHA) requirements and that is classified as a home equity conversion mortgage (HECM). There are some lenders that offer reverse mortgages that aren’t insured by the FHA, but it’s important to be especially careful in those cases because you might not have the same protections.
Once you move out or pass on, your spouse can continue living in the home as long as they keep up with tax and insurance payments. However, when neither of you is living in the home, the loan must be repaid — or the home sold so the lender can recoup the money.
Who can get a reverse nortgage?
The FHA insures certain reverse mortgages, as long as borrowers meet certain requirements:
- Be at least 62 years of age
- Live in the home as a primary residence (or your spouse, listed on the mortgage, must live in the home)
- Be capable of paying property taxes, homeowners insurance, and other maintenance costs and fees while you live in the home
- Meet FHA property requirements for the home
- Are willing to attend a counseling session about HECMs
- There are no delinquent federal debts on your account
You’re more likely to get the money you need if you own your home outright, or if your mortgage balance is small so that you have a great deal of equity.
Some lenders will tell you they offer reverse mortgages to borrowers younger than 62. Watch out for these loans because they aren’t insured by the FHA, and you could end up paying more in fees and not have protections related to your spouse living in the home, or your heirs could end up responsible for repaying more than the home is worth. Look for an FHA-insured reverse mortgage for best results.
How much can you borrow with a reverse mortgage?
When you apply for a reverse mortgage, your lender will consider a few factors that will influence the amount of money you receive, including:
- Your age
- Value of your home
- Equity available in your home
- Interest rate
- FHA mortgage limit for HECMs
- Whether your fees are rolled into the loan
- How you choose to receive your money
The older you are, and the more equity you have in your home, the more you’re likely to be approved for. Keep in mind, too, that fees associated with reverse mortgages are often much higher than fees for other types of home equity loans. That’s going to eat into how much you actually receive — even if you have a lot of equity in your home.
One of the perks of FHA-insured reverse mortgages is the fact that you don’t have to pay back more than the home is worth, so if the value drops, and you owe more than the home is worth, you (or your heirs) might have to sign a deed in lieu of foreclosure turning it over to the bank. This is one reason many lenders won’t actually lend you the entire amount of your equity.
You can use the money for whatever you want, whether it’s paying off debt, covering living expenses, or going on a vacation.
How do you get your money?
If you get a fixed-rate reverse mortgage, you’ll receive a lump sum payment. You can then take that money and do what you want with it. However, when it runs out, it’s gone. Some retirees use a lump sum to fund a retirement investment portfolio or purchase an immediate annuity, while others use the money to pay of debts or cover other expenses.
With an adjustable-rate HECM, you have different options available. You can choose to receive set monthly payments for a specific period of time or get payments for as long as you or an eligible spouse live in a house.
If you choose an open-ended payment schedule, you’ll likely get a smaller amount each month. However, you can be reasonably sure that you’ll continue to receive money until you pass on or move into a long-term care facility. With a fixed-term payment schedule, you could see higher monthly cash flow, but you run the risk of outliving the payments and trying to figure out what to do next.
Finally, you can also choose to use your reverse mortgage as a line of credit. You can withdraw funds as needed, up to the credit limit. This is a little more flexible and can be useful if you have other sources of income, and just want the HECM in case you need to fill a gap on occasion.
Pros and Cons of a Reverse Mortgage
If you’re considering a reverse mortgage, it’s a good idea to start with an FHA-approved lender so you receive protections. You can use an online locator to find a counselor who can help you with the process, or you can call 800-569-4287.
Carefully consider the pros and cons, too.
Advantages of a reverse mortgage
There are some ways to benefit from a HECM that you wouldn’t see with a more “traditional” home equity loan.
- No monthly payments as a borrower
- Improve monthly cash flow
- Pay off debt (including an existing mortgage on the home)
- Non-borrowing spouse can remain in the home
- Loan is paid off by selling the house when you pass on or move out
Disadvantages of a reverse mortgage
While a HECM might seem like a no-brainer, there are some downsides to consider before you proceed.
- High closing costs and other fees
- You might not be able to pass the home on to your heirs
- Costs associated with property taxes, home insurance, and maintenance must still be paid
- You’re draining a major asset — and you might still outlive your money
Is a reverse mortgage right for you?
If you know you’ll stay in your home for a long time and you need a little extra to supplement your retirement income, a reverse mortgage can be one way to use your home as an asset. For borrowers who aren’t too concerned about passing the home to heirs, this can be one way to get financial benefit from the home during retirement — as long as you can keep up with the costs of maintaining the home and the property taxes.
On the other hand, if you can’t keep up with the costs of the home or you want your home to benefit your heirs, getting a reverse mortgage might not make sense. When you’re no longer living in the home, your heirs will need to sell the home to pay off the loan, or they’ll have to pay the loan themselves in order to keep the house. If there’s enough money in the estate to pay off the loan, it will reduce how much ready cash they receive when you pass on.
Carefully consider your situation and your priorities before you decide to get a reverse mortgage and then make the decision most likely to benefit you in retirement and increase the chance that you’ll outlive your money.