- Reverse mortgages let you cash out your home’s equity.
- While there are four different types of reverse mortgages, all result in cash that may be used in different ways.
- If you’re at least 62 years old, own your home (primary residence), a reverse mortgage may be right for you. Click here to get started today.
A reverse mortgage is a type of loan that allows you to cash out the equity of your principal residence while you still live in the house.
Instead of making monthly mortgage payments to the lender, the lender pays you the way you would with a traditional mortgage. However, you generally don’t have to pay back the money until you move out, sell the house, fail to meet the loan obligations, or pass away. Reverse mortgages aren’t exclusively made for single-family homes, and you can apply if you live in a condominium, so long as it's your primary residence.
- How Does a Reverse Mortgage Work?
- Is A Reverse Mortgage Right for You?
- How to Avoid Reverse Mortgage Scams
- Summary of Money’s Guide to Reverse Mortgages
How Does a Reverse Mortgage Work?
To understand how reverse mortgages work, first, you first need to understand what equity is. In real estate terms, equity is the actual market value of your property minus any mortgages still owed on it.
For example, if the value of your home is $300,000 and you still owe $100,000 on the mortgage, your home equity line is $200,000. That’s the amount you would be able to borrow through a reverse mortgage. If, on the other hand, you don’t have a mortgage on the house, then the total market value of the property is the equity you have available.
When you apply for a reverse mortgage, the bank will issue you a payment for the equity amount you want. This money is yours tax-free and may be paid upfront in a single lump sum, in monthly payments, as a line of credit, or in a combination of all three.
Types of Reverse Mortgages
There are four types of reverse mortgages: home equity conversion, home equity conversion for purchase, proprietary, and single-purpose reverse mortgage. Single-family homes are not exempt as long as they are the principal residence. Much like a regular mortgage, these loans offer a fixed rate or an adjustable interest rate. Check out our page on current mortgage rates.
Just like with a traditional mortgage, reverse mortgage borrowers must remain current on their property-related taxes, insurance and maintenance as part of ongoing loan obligations.
Home Equity Conversion Mortgage (HECM)
A Home Equity Conversion Mortgage allows homeowners to convert the equity they've accumulated in their homes into cash. HECMs are available only through lenders approved to disburse FHA loans, insured by the Federal Housing Administration (FHA), and regulated by the U.S. Department of Housing and Urban Development. The amount that can be borrowed is based on the appraised value of the property, and subject to FHA limits.
Some HECM lenders require two appraisals of the property. Of those two, the lender will use the lowest appraised value for the loan. For 2021, the principal limit for this loan is $822,375, and there are no limits on how reverse mortgage borrowers can use the money. You’ll be required to attend a HUD counseling session through a counsel agency and pay a mortgage insurance premium (MIP).
With an HECM, your home is insured by mandatory Mortgage Insurance Premiums. This means that even if the house has a loan balance larger than the property's value, the owners cannot owe more on the property than the actual loan balance.
Home Equity Conversion Mortgage (HECM) for Purchase
An HECM for Purchase allows seniors to use the proceeds from a reverse mortgage to buy a new principal residence. Just as with a regular HECM, this is a Federal Housing Administration (FHA)-insured program. It also has a non-recourse feature, which means that the borrower will never owe more than the home is worth when the loan is repaid.
This loan type features flexible repayment. That means that the borrower can repay as much or as little as they like each month, or even make no monthly principal and interest payments. This makes it easier for a buyer to be able to afford the home they really want, while keeping more of their savings and retirement assets.
As an HECM for Purchase involves buying a new primary residence, there are regulations related to the down payment on the new home. If closing costs are financed, the minimum required downpayment is usually between 29% to 63% of the purchase price, depending on the buyer or eligible non-borrowing spouse's age, when applicable. The remainder of the purchase funds come from the HECM loan.
If the HECM for purchase resulted in a substantial enough amount, the homebuyer may even have some of the proceeds left over to use for other retirement goals.
According to the NRMLA, this type of reverse mortgage is often preferred by people living on a fixed income who are looking to downsize, move closer to family, or whose current home no longer meets their needs.
Proprietary Reverse Mortgage
A proprietary reverse mortgage is a kind of loan offered by private reverse mortgage lenders. Also known as a jumbo reverse mortgage, this type of loan is for homes exceeding the value limits set by HUD.
Proprietary reverse mortgages don’t require the borrower to pay a monthly insurance premium or financial counseling since the federal government does not insure them. However, these loans tend to have a higher interest rate than a HECM loan. Borrowers can get the money as a lump sum or monthly annuity for any purpose. Check out our selection for the best mortgage lenders.
Single-Purpose Reverse Mortgage
Local and state government agencies and nonprofit entities offer single-purpose reverse mortgages for a specific purpose, such as paying off property taxes or making home improvements. Also known as "deferred payment loan” or “property tax deferral loan,” this kind of reverse mortgage has lower fees and interest rates.
Eligibility requirements also tend to be less strict, so this is one type of reverse mortgage low-income borrowers and homeowners can afford. Check out our selection for the best home improvement loans.
Is a Reverse Mortgage Right For You?
If you are searching for a reverse mortgage loan, keep in mind that to qualify,
- You must be at least 62 years old, own your home, and live in it as your primary residence
- Your home must have enough equity for the reverse mortgage amount you need
- You must be able to pay taxes and homeowners insurance premiums on the house
- Maintain the house in a good physical state
- In the case of a HECM, you have to attend financial counseling with a HUD-approved counsel agency
If you receive Medicaid or Supplemental Security Income (SSI) benefits from the Social Security Administration, consult a financial expert to determine if your benefits will be affected by this kind of home equity loan.
How Do You Pay Back A Reverse Mortgage?
When the borrower dies, the bank explains to the heirs their options regarding loan payments and their mortgage balance. They have 30 days to decide what to do with the loan and with the property. These are some of the options available for you or your heirs to pay a reverse mortgage:
- Sell the home and use the proceeds to pay off the balance on the reverse mortgage loan
- If the heir wishes to keep the property, they must find a means of repaying the loan balance or 95% of the home's appraised value, whichever is less
- An heir takes a loan on the property after the borrower has passed away to cover the balance on the mortgage
- Refinance with a forward mortgage loan
If the heirs decide not to keep the house, the lender may proceed with foreclosure
Summary of Money’s Guide to Reverse Mortgages
- A reverse mortgage can be a powerful tool to access funds to perform necessary home improvements, pay back property taxes, or other essential living expenses
- Reverse mortgages can be accessed through FHA loan lenders and private lenders and are available for homeowners 62 years of age and older
- These loans are disbursed as a lump sum payment, as a line of credit, or as a monthly annuity
- Homeowners should be fully aware of the responsibilities, conditions, and possible scams when looking for and applying for a reverse mortgage
- It’s crucial to make a financial assessment before applying for a reverse mortgage to see if you will be able to afford living expenses, insurance, and taxes to continue living in your house after taking this type of loan