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| The Basics | Put your home's equity to work for you
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If you're retired and struggling financially, a reverse mortgage will help you hang on to your home. But you wont be able to keep the house for your kids.
By Ginger Applegarth
When you hear the term 'house poor', it brings to mind the young couple who spend every penny on their first home and have nothing left for furniture, much less going out to dinner. Increasingly, however, house poor applies to retirees, as the value of their homes has soared and real estate makes up a larger and larger percentage of their assets.
There is a big problem with home equity, though: It doesn't pay the bills. One possible solution is a reverse mortgage, which is slowly making inroads around the country.
Once you hit retirement, your paycheck stops, but the bills go on. Savings and retirement plans may be used up much sooner than you had planned, and at that point, the only asset left might be your house. Of course, you could sell it, but what happens if you want to stay in your home? This is a major issue now, and it will become even more so as baby boomers age and realize they haven't saved nearly enough for their later years.
What is it?
A reverse mortgage is exactly what the name implies. With a regular mortgage, the homeowner starts out with the debt and makes monthly payments of both interest and principal until the mortgage is paid off. In this case, the homeowner ends up with all the equity in the form of the house.
With a reverse mortgage, the opposite is true. The homeowner is paid a lump sum or monthly payment (or has access to a home-equity line of credit), but each payment reduces the homeowner's equity.
Typically what happens is that the owner(s) dies before the payments, plus interest, exceed the value of the house. In that case, the debt becomes the responsibility of the owner's estate, and the house is usually sold to repay the loan unless other funds are available. It also could be sold prior to that if the owner moves into a relative's house or a nursing home.
Using up equity can be a frightening experience, so it is a relief to know that with most reverse mortgages, the owner can continue to own the home, only being obligated to pay real-estate taxes, insurance premiums and regular maintenance.
You might think of taking out a regular home-equity loan instead of using a reverse mortgage. But once you retire, you may not have enough income to qualify for the home-equity loan. The beauty of the reverse mortgage is that you don't have to have substantial income to qualify. You just need equity in the home.
How do I get one?
The amount of a reverse mortgage that you can obtain depends upon the type of loan you use. The reverse-mortgage market has expanded in terms of types of loans, although actual participation remains fairly low. There may be something on the order of 100,000 people using reverse mortgages. Most borrowers are women. The median age of the borrower is around 75, and the loans seem to be most popular in the West and Northeast, where property values are high compared with the rest of the country.
There are three basic types of loans, listed in order of maximum available loan amounts:- FHA Insured: You don't have to repay the loan as long as you live in your home, even if your payments plus interest are more than its market value. The interest rate is adjustable, and you can choose for more payment options: lump sum, monthly payments or, in most areas, a line of credit.
- Lender-insured: Your loan can be greater than with the FHA reverse mortgage, and the interest rate may be fixed or variable. You don't have the lump sum option, but you can choose monthly payments or a line of credit. Some lender-insured plans include an annuity ("reverse annuity mortgage") that will keep on paying if you are no longer living at home.
- Uninsured: This loan offers the largest amount but also the largest risk. If the lender goes bankrupt, your payments will be in jeopardy. The interest rate is fixed, and it's most like a regular loan in that your reverse mortgage is for a specified period of years. You get monthly payments when that time is up, and you must repay the loan (which probably means selling your house and moving).
The amount of the mortgage depends upon age, the value of the home (or the maximum amount available under the loan program). A couple will get a lower monthly income than a single homeowner, because one is likely to outlive the other by several years. Most lenders require borrowers to attend informational sessions explaining the program before the deal is completed.
Some states have publicly funded programs specifically targeted at low-income residents, but most reverse mortgages are private.
What are the drawbacks?
Reverse mortgages have upfront costs that can't be dodged. If you're planning to leave your home to your heirs, this could be a serious impediment. The upfront costs vary according to your situation and the type of loan you choose.
The costs include origination fees and insurance premiums. These can vary widely from $4,200 to $6,700 for a $150,000 loan, according to Fannie Mae, the nation's largest investor in mortgages. Plus you will be charged a monthly "servicing fee."
A reverse mortgage is probably not worth the upfront costs if you plan to move within the next few years. Your payments (except for "reverse annuity mortgage" payments) aren't taxable, but you can only deduct the mortgage interest when the loan is repaid.
Reverse mortgages are not the panacea for every elderly person who wants to stay in his or her home. If you want to keep your house in the family to pass down to your children, you're not a good candidate for a reverse mortgage.
Still, the market for reverse mortgages looks promising. Twenty million people are older than 65. Of these, 77% are homeowners, and 84% own their homes free and clear, according to Fannie Mae. By the year 2030, a third of the population will be 65 or older.
As reverse mortgages gain in popularity and use, competition means that better deals will be offered to consumers. If a retiree goes into the deal with eyes wide open, fully understanding that he'll eventually lose most or all of the equity in his home, reverse mortgages can be the answer. They may also be the solution for someone who wants to remain in familiar surroundings with memories of loved ones, or even for caregivers who want to care for their elderly relatives at home instead of moving the retiree into a nursing home.
Most importantly, retirees needing additional monthly income won't be forced to sell what is often their most prized possession -- their homes.
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