Having enough money to last through retirement isn’t easy, especially if you’re already in the midst of it. Going back to work or finding new income streams can be stressful at best and impossible at worst.
If you or a retired loved one needs more income in retirement, reverse mortgages are worth considering. It gets you the cash you need without having to pick up another job or sell off your valuables.
What is a reverse mortgage loan?
A reverse mortgage is a special type of home loan designed specifically for homeowners older than 62. It allows them to convert some of their home’s equity into cash without a monthly payment or taxes.
The majority of reverse mortgages are issued as a home equity conversion mortgage (HECM). These loans are insured by the federal government, so it’s important to verify that yours is under the HECM program.
How does a reverse mortgage work?
As the name suggests, a reverse mortgage operates as the opposite of a traditional home loan. “[The loan] is paid from the equity in the home rather than by a monthly check from the borrower,” says Greg Cook, reverse mortgage specialist at Reverse Lending Experts.
The amount you receive depends on your home’s value, the type of loan you choose, and how old you are. For instance, the older you are, the more you’ll receive. The maximum borrowing limit on an HECM loan is $636,150.
The Federal Housing Administration (FHA), which approves lenders for HECM loans, allows two loan types: adjustable-rate mortgage and fixed-rate mortgage.
With a fixed-rate reverse mortgage, you’ll get paid out in one lump sum when you close. This option works well if you have a clear plan for how you intend to use the money.
With an adjustable-rate mortgage, you can choose from one of the following payment options:
- Term: Fixed monthly payments for a set amount of time.
- Modified term: A line of credit and fixed monthly payments for a set amount of time.
- Tenure: Fixed monthly payments for as long as you or an eligible spouse remains in the home.
- Modified tenure: A line of credit and fixed monthly payments for as long as you or an eligible spouse remains in the home.
- Line of credit: Undetermined payment amounts when you need them; lasts until you’ve exhausted the predetermined funds.
How to get a reverse mortgage?
If you’re interested in using a reverse mortgage to supplement your retirement income, here are three steps to making it happen:
1. Make sure you’re eligible
Not just anyone can get a reverse mortgage, even if you’re retired. To qualify, you must meet the following eligibility requirements:
- Be at least 62 years old.
- You or an eligible spouse must live in the home as your primary residence.
- You do not have any delinquent federal debts.
- You hold the title to the home or have a low mortgage balance that can be paid off at closing with proceeds from the reverse loan.
- You have enough financial resources to pay ongoing property taxes and insurance.
- You work with an HECM counselor before obtaining the loan.
- You must meet the FHA’s standards for hazard and flood insurance.
2. Apply with an approved lender
Not all lenders are approved by the FHA to sell HECM loans. While you might find lenders who offer non-HECM reverse mortgage, those won’t carry the same protections and insurance, so it might not be worth the risk.
Run a search on approved lenders in your area to see which ones offer HECM loans. Once you find one, you’ll start the application process just like you would with a traditional mortgage loan.
The lender will review your credit, income statements, and any outstanding mortgage loans. Through this process, the lender will know whether you have any outstanding liens on your property or delinquent federal debts.
Next, the lender will request an appraisal on the home to determine how much it’s worth. Then, depending on your age — it’s based on the younger of you and your spouse — and which loan and payment type you choose, the lender will determine how much you would receive.
The closing process takes approximately 30 days.
3. Set up counseling
Since senior citizens are vulnerable to being taken advantage of, the FHA requires that all applicants go through counseling sessions with an HECM counselor.
“This is a fairly recent addition to the program and is designed to help ensure that seniors are entering into the process with both eyes wide open,” says Cook.
Pros and cons of a reverse mortgage
Before you take the next step to applying for a reverse mortgage, it’s important to understand the perks and pitfalls of using one.
Compare the pros and cons to make a better decision.
- Your heirs don’t have to pay it back: When you pass away, your loved ones won’t be responsible for paying back the reverse mortgage. Instead, the home will be sold, and the proceeds will be used to pay back the loan. If there’s any equity from the sale in addition to the loan amount, it will go to your heirs.
- It’s secure: With a reverse mortgage loan, you don’t have to worry about how the financial markets are doing. With most payment types, you’ll receive a fixed amount, regardless of what’s happening in the world.
- Your surviving spouse stays: If your spouse is on the loan with you, he or she can remain in the home and even receive payments until he or she dies or moves away.
- High fees: Getting any mortgage is expensive, and a reverse mortgage is no different. Fees you can expect to pay include mortgage insurance premiums, third-party closing costs, origination fees, and a loan servicing fee. You can roll the fees into the loan instead of paying them upfront, but that will limit how much you take out in payments.
- You lose equity: If you plan to make your home a part of your estate, using a reverse mortgage can diminish its value.
- You could lose your home: Reverse mortgages come with strict rules that you have to follow to ensure you keep your house. You must continue to pay property taxes and required insurance. Otherwise, the lender could repossess your house.
If you need to supplement retirement income and aren’t bothered by the risks that come with a reverse mortgage, it might be worth getting one.
If this is the case, check out several mortgage lenders to see which ones offer the best terms. Also, be sure to cross-reference them with the FHA-approved list to ensure the loan is an HECM.
While you’re going through the process of getting your reverse mortgage, take steps to plan how you’re going to use the money wisely. “A reverse mortgage is not an ATM,” says Cook. He adds, “Like any other financial instrument, it has to be managed prudently to ensure the funds are available for the duration of your retirement.”
Ben Luthi is a personal finance writer and a credit cards expert who loves helping consumers and business owners make better financial decisions. His work has been featured in Time, MarketWatch, Yahoo! Finance, U.S. News & World Report, CNBC, Success Magazine, USA Today, The Huffington Post and many more.