Anyone who watches television is familiar with the pervasive advertisements for “reverse” mortgages. The pitch is compelling: If you’re 62 or older, give up your mortgage payment and receive a monthly payment from your lender instead!
This arrangement sounds good, especially to seniors who are facing big bills for medical treatment or major home repairs. However, consumers should be aware that reverse mortgages carry significant risks, and this type of mortgage is not appropriate for everyone.
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What exactly is a reverse mortgage? This type of home loan allows qualified seniors to borrow against the value of their home. Typically, the homeowner receives cash at the loan closing and a credit line to withdraw regular monthly payments for the life of the loan. Upon the homeowner’s death, or at the end of the mortgage term—whichever comes first—full repayment of the loan is due, which is typically satisfied by selling the home.
Before rushing to get this kind of loan, older homeowners should carefully consider whether the loan is appropriate for their particular circumstances. As a rule of thumb, reverse mortgages are most suitable for seniors who have acquired significant equity in a home where they plan to spend the rest of their life. But even if those threshold criteria are met, any potential reverse mortgage holder should consider these risks and drawbacks:
•High fees. Borrower pays significant up-front and ongoing fees (including origination fee, third-party closing costs, a mortgage insurance premium, and monthly servicing premiums), as well as interest on the amount borrowed.
•Less for heirs. For homeowners hoping to pass along wealth to their heirs, reverse mortgages are probably not a good option, since these mortgages drain home equity instead of build it.
•Property value risk for heirs. If the home value drops and/or the homeowner lives longer than expected, he or she may owe more than the home is worth at the end of the loan term. Homeowners do not have to pay back more than the value of the home when it is sold, but this is not the case for heirs. Heirs who want to keep the home have to pay back the full amount borrowed.
•Foreclosure. Borrower may be foreclosed upon for failure to maintain property or failure to pay property taxes. Borrowers must pay taxes on their own, and there typically is no escrow account for taxes.
Specific terms may vary among lenders, and be aware that not every lender offers reverse mortgages. Before searching for financing, it would be wise advice to learn as much as possible about these loans. If there are no legal or accounting professionals advising an older borrower, it may be time to engage these services. Additionally, reputable elder advocates such as AARP can provide detailed information.
Just as it makes sound sense to shop for any consumer purchase to find a quality product at a competitive price, the same approach would serve to inform families as to which reverse mortgage would make sense for their specific circumstances. The federal Truth-in-Lending Act requires lenders to make a full disclosure on the total annual cost of loans. Knowing a lender’s TALC will provide consumers the ability to comparison shop and factually determine the better loan.
In sum, reverse mortgages can be a helpful tool for cash-poor and home equity-rich older Americans. However, they should be used only after careful consideration of each borrower’s circumstances and alternative options.
(Charlene Crowell is a communications manager with the Center for Responsible Lending. She can be reached at: Charlene.crowell@responsiblelending.org.)
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