What is a reverse mortgage?
The Consumer Financial Protection Bureau defines a reverse mortgage as a “special type of home loan for older homeowners that require no monthly mortgage payments.”
In other words, a reverse mortgage is like a conventional mortgage in the sense that it allows homeowners to use their homes as security for loans.
However, the similarities stop there. Unlike a conventional mortgage, homeowners do not need to pay monthly payments on the loan.
Instead, the debt is usually repaid when the homeowner dies, sells the mortgaged house or ceases to use the mortgaged house as his principal residence. In addition, some reverse mortgage loans may require additional conditions, such as compelling the homeowner to pay for property taxes and insurance premiums, and to keep the mortgaged property in good repair.
In most countries, including the United States, reverse mortgage loans are considered non-recourse loans. In simpler terms, it is possible for the balance of reverse mortgage loans to exceed to the value of mortgaged property at the time of its foreclosure. Should this situation occur, the borrower, his heirs, assigns, and successors-in-interest cannot be required to pay for the difference. Instead, the loan insurance covers the difference.
For example, if the loan balance at the time of the homeowner’s death amounts to $50,000 and the mortgaged property was foreclosed and sold for only $30,000, the heirs of the homeowner cannot be held liable for the remaining $20,000. Instead, the proceeds of the reverse mortgage loan insurance pays the $20,000. However, as already stated, this is not a universal rule. It is entirely possible for reverse mortgage loans in some countries to sill require the homeowner’s heirs, assigns, and successors-in-interest to pay the difference. It all depends on the applicable legislation of that particular country.
Although the term “reverse mortgage” is most commonly associated with Home Equity Conversion Mortgages (HECMs), there are actually several types of reverse mortgage. HECMs just happen to be the most widely known.
The common types of reverse mortgage are:
- reverse mortgages that are insured by the Federal Housing Administration (FHA), which include the HECMs;
- reverse mortgages that are not insured by the FHA (often in the form of a jumbo reverse mortgage); and
- single-purpose reverse mortgages which are usually offered by local governments.
When we talk about reverse mortgages in this article, we will be referring to HECMs, so there is no immediate need to expound on this type of reverse mortgage. You will learn more about HECMs as you continue reading. For now, just know that HECMs are backed by the FHA, which is part of the Department of Housing and Urban Development (HUD).
Reverse mortgages which are not insured by the FHA are often referred to as “proprietary reverse mortgages,” “jumbo reverse mortgages,” and “non-FHA reverse mortgages.” Instead of being backed by the FHA, these loans are backed only by the private companies. While HECMs are subjected to governmental restrictions, such as a limit on the loan amount, proprietary reverse mortgages are not. This allows homeowners with higher-value homes to qualify for significantly more funds. Moreover, unlike HECMs which have multiple payout options, proprietary reverse mortgages are usually only released as lump sums.
Finally, let us talk about single-purpose reverse mortgages. Unlike the previous two types of reverse mortgage, single-purpose reverse mortgages set a limit on how you can spend the loan proceeds. In exchange for this limitation, however, single-purpose reverse mortgages are often the least expensive option for prospective applicants, which make them ideal for low and moderate-income homeowners.
How are reverse mortgage proceeds paid out?
There are several ways for the proceeds of a reverse mortgage loan to be paid out. Most commonly, however, the proceeds are released as a lump sum, monthly payments, line of credit or combination of these methods. It all depends on the applicable legislation and the terms and conditions of the agreement.
Who are eligible for reverse mortgage loans?
Generally speaking, in order to be eligible for a reverse mortgage in the United States, homeowners must be at least 62 years old and must be occupying the mortgaged property as their primary residence. In the event that the property is co-owned by spouses, only one of the homeowners need to comply with age requirement. Even if one spouse is younger than the age requirement, he or she can still enjoy the benefits of the reverse mortgage for as long as he or she still resides on the mortgaged property.
Obviously, however, lenders do not give out reverse mortgage loans to just any interested person. Eligible homeowners must first undergo financial assessment before their reverse mortgage applications are approved. Although approved applicants will not be required to make monthly payments, they are still required to regularly pay for property taxes and mortgage insurance premiums. They will also need to keep the mortgaged property in a reasonable state of repair, which will likewise necessitate some expenses. It is only when a lender determines that an interested applicant is capable of paying for these expenses that the reverse mortgage application moves on to the final step.
In addition to the above, the financial assessment will also check if the applicant has any overdue federal debts, such as taxes and student loans, and any pre-existing mortgages on his home. If any such debts are discovered during the financial assessment process, the applicant must use the proceeds of the reverse mortgage loan to pay off these debts as a condition for the loan’s approval.
The final requirement that interested homeowners must comply with before their reverse mortgage applications are approved is the payment of closing costs. There are a number of closing costs to consider, such as origination fees (essentially the lender’s processing fees), counseling fees, appraisals fees, repair expenses (costs related to making the homeowner’s residence compliant with the applicable guidelines for reverse mortgaged properties), third-party fees, and mortgage insurance premiums.
Once the closing costs have been paid and the reverse mortgage loan has been approved, borrowers will only need to worry about minimal ongoing costs, such as repairs and maintenance of the mortgaged property, annual mortgage insurance premiums, and property taxes.
Can a reverse mortgage loan be cancelled?
In most cases, reverse mortgage borrowers are allowed to cancel their loans within three working days after its closing for whatever reason and without penalty. This is referred to as the “right of rescission.” Should you wish to cancel your reverse mortgage, you will need to inform the lender in writing and keep copies of your correspondence just in case any legal issues turn up. After receiving notice of your cancellation, the lender must return the money paid for financing within 20 days.
Is there a time limit on reverse mortgages?
No, there is no fixed time limit for reverse mortgages. The loan only becomes due upon the happening of one of these events:
- the homeowner dies;
- the mortgaged property is sold;
- the homeowner stops using the mortgaged property as his principal residence for a period of 12 months; and
- the homeowner fails to comply with the ongoing requirements of the reverse mortgage, such as the payment of property taxes and insurance premiums or the maintenance and repair of the mortgaged property.
What happens when the reverse mortgage borrower dies?
Generally speaking, when a reverse mortgage borrower dies, the loan becomes due. However, if he is survived by a co-borrower, then the latter can continue to enjoy the benefits of the reverse mortgage loan if he also continues to comply with its ongoing requirements.
Payment of the loan may also be deferred if the borrower is survived by an eligible non-borrowing spouse. In this situation, the borrower’s surviving spouse, who is not co-borrower to the reverse mortgage loan, may still enjoy the benefits of the reverse mortgage if she complies with certain requirements. These requirements will depend on when the reverse mortgage loan was taken out. But in general, the non-borrowing spouse will need to show the following:
- she has either a legal title to the property or the legal right to remain in the home;
- she was married to the borrowing spouse at the time the reverse mortgage contract was signed and remained married to him until the date of his death;
- she was specifically named as an eligible non-borrowing spouse in the reverse mortgage contract;
- she has resided in the mortgaged property since the start of the reverse mortgage loan; and
- she continues to fulfill the ongoing requirements of the reverse mortgage loan.
If the borrower is not survived by either of the foregoing, then the loan will become due. If his heirs want to keep the home, they can either pay off the balance of the reverse mortgage loan or 95% of the mortgaged property’s appraisal value, whichever is less. If his heirs do not want to keep the home, they can either sell the property themselves and pay off the balance or allow the lender to sell the property for them. If they choose the latter option and the proceeds of the sale exceed the loan balance, they will be allowed to keep the excess. On the other hand, if the proceeds are less than the loan balance, the heirs will not be liable for the balance since, as already discussed, reverse mortgages are non-recourse loans.
What happens if the reverse mortgage borrower sells the mortgaged property?
If the reverse mortgage borrower sells the mortgaged property, the loan becomes due. If the proceeds of the sale exceed the balance of the reverse mortgage loan, the borrower will need to pay off the balance and will be allowed to keep the excess. On the other hand, if the proceeds are less than the balance, the borrower will not be liable for the deficiency.
What happens if the reverse mortgage borrower stops using the mortgaged property as his principal residence?
Generally speaking, when a reverse mortgage borrower stops using the mortgaged property as his principal residence, the loan becomes due. However, if a co-borrower continues to reside in the mortgaged property, then the latter can continue to enjoy the benefits of the reverse mortgage loan if he also continues to comply with its ongoing requirements.
What happens if the reverse mortgage borrower receives a notice of default?
A reverse mortgage borrower may receive a notice of default on his loan if the lender discovers that he has not complied with the ongoing requirements of the reverse mortgage. In other words, the reverse mortgage borrower may have failed to
- pay of property taxes and insurance premiums;
- keep the mortgaged property in an acceptable state of repair; or
- use the mortgaged property as his principal residence.
Nevertheless, whatever the reason for the default, the borrower must take immediate steps to correct the problem if he wants to avoid a foreclosure. It is highly recommended that you consult with an attorney or other expert on reverse mortgage loans if you want to contest your alleged default.
As you can see, reverse mortgage loans are not for everyone. While there is no specific time limit to repay reverse mortgage loans, you will need to carefully consider your future plans if you want to defer payment of the loan for as long as possible. In particular, you will need to consider whether you want to stay in the mortgaged property for the foreseeable future or if you eventually want to move in with your kids, downsize your home, or move to an assisted living facility as you get older.
You will also need to consider your future finances and sources of income. In particular, try to project if you can keep up with the property taxes, insurance premiums, and costs of repairs on the mortgaged property if your income decreases when you get older.
Take the time to carefully consider your plans and finances, especially if you want to take on something as permanent as a reverse mortgage loan. Your future self will definitely thank you for it!