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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