Are you wondering “What is a reverse mortgage?” Will it benefit you financially? Are there any cons?
You may have seen the commercial on television, where a nice older man explains the benefits of a reverse mortgage, boasting that you can still own your home but get cash from your home’s equity – cash that you can use for any purpose you want (and it’s all tax free).
Then he says, “What’s the catch? Well, there isn’t one!” Well, that’s not exactly the case. Keep reading to learn what is a reverse mortgage pros and cons.
Reverse Mortgage Information
The concept of a HECM (home equity conversion mortgage), or a “reverse mortgage,” is for homeowners to get cash out of the money they have invested in their homes, while continuing to own their homes.
For senior citizens who simply want to live in their home for rest of their lives, or for as long as they wish or are able to, the need for additional money to make ends meet can be the difference between being able to remain in their home or not.
The money from a reverse mortgage can also be used for seniors to get out of debt or do some much-needed repairs to their home.
Of course, since homeowners have no restrictions on how the money is used, they could take the money and go on a vacation, take a world cruise or buy something they’ve always wanted.
Spending the money for such things, though permitted, is unwise, and is not the intended purpose of these loans. We here at Five Bags of Gold do not endorse using a reverse mortgage unless it is absolutely necessary.
Reverse Mortgages Have to be Paid Back
So, you continue to own your home, you can get a “bucket” of tax-free money from which to draw, and you can use the money for anything you want. What’s not to like about that?
A reverse mortgage is a loan. Like any loan, it has to be paid back.
The advantage of this loan is that it does not have to be paid back as long as the borrower remains in the home.
Typically, when the homeowner passes away, the house is sold and then the loan is paid back from the sale of the house.
This can be a blessing to the homeowner, but one catch is that less money will be available as an inheritance for the homeowner’s heirs.
Drawing From Your Reverse Mortgage
Like any loan, another “catch” is that interest accrues on any money that is borrowed.
There are different financial structures for the distribution of money available for reverse mortgages.
One common scenario is for the loan company to make a “bucket of money” available, from which the homeowner can draw at anytime and in any amount.
The amount of money a loan company will lend depends on several factors, including the age of the homeowner and the appraised value of the home. A 65-year-old homeowner whose home is appraised at $200,000 may qualify for a loan of about $100,000.
Any money drawn from this bucket begins to accumulate interest, which is due to be repaid when the loan is terminated (though you can make payments toward the loan and interest at anytime).
Fees and Charges to be Aware Of
Another catch is that there is a mortgage insurance fee on any borrowed money. Though small, it’s another fee added to the interest debt.
Also, you must keep a small balance (typically $100) in order to keep the loan open. And of course, you must pay interest on that money. Again, these costs are minimal, but they are ongoing.
Finally, you must pay for a home appraisal (at an estimated cost of $500) and have a government-required counseling session (about $125), which can be done over the phone.
In addition, you’ll be hit with traditional closing costs, as with “forward” mortgages. These are lender fees, reverse mortgage insurance, title searches, inspections, recording fees, taxes and credit checks.
Paying $8,000 in up-front closing costs is not uncommon when taking out a reverse mortgage.
Conclusion: What is a Reverse Mortgage Pros and Cons
From a financial viewpoint, a reverse mortgage can be a terrible product, which is why we don’t recommend going that route unless you absolutely have to.
In the right circumstance, however, it can be a life-saver for senior who would otherwise have to leave their homes.
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Hello and thanks for helping people to understand how a reverse mortgage operates. Often if something feels too good to be true, there is a reason for it. However, for people who feel like they have exhausted other options to generate additional income, it’s nice to know that this option of using your home’s equity for a reverse mortgage is an option.
Yes, I think it can be a lifesaver for Seniors who want to remain at home, but don’t have the income to do so, but do have the equity. Otherwise, I would recommend staying away from Reverse Mortgages.
Thanks for your article on Reverse Mortgages Dan. I believe that they could be a great thing for those retirees struggling to pay off credit card debts, wanting that life time holiday or looking to purchase a new car. Yes, it can reduce the inheritance, but if you’ve worked hard your whole life but have retired with little or no funds, shouldn’t you be entitled to enjoy your retirement with a little actual cash?
I have one question for you, is it possible to pay the interest on the loan each month?
Yes, you can make payments in any amounts toward the reverse mortgage loan at any time. Let’s say you take a lump sum. The reverse mortgage company will charge interest every month, but you don’t have to pay it. If you decide to pay it, that’s a good way to keep the amount borrowed pretty much even. I agree with you that a reverse mortgage can be a good thing. My grandmother, who passed away in the early 1980s, just wanted to stay in her home until she passed…a home she had lived in since 1927. But sadly, the town became a rich town, and taxes and living expenses forced her to sell it and move into a small apartment. A reverse mortgage would have made her final years much more enjoyable, had it been available. I will caution you on one thing. You mention that a reverse mortgage can be used to pay off credit cards. If that’s the only reason for taking the loan, forget it. We paid about $8,000 for closing costs! That’s about as much as taking a regular mortgage on a new house. Now, we didn’t have to come up with the money, as it was made as a part of the loan. So yeah, take a vacation of a lifetime, buy a car, or use it to help pay taxes and expenses to remain in your home…unless your credit card debt is really huge. Thanks for reading!