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Reverse MortgagesDolores M. Coulter © July 2008
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Q: I see a lot of ads about reverse mortgages. How do I know whether a reverse mortgage is a good idea? Reverse mortgages have been available for quite a while. However the marketing of such mortgages seems to have increased significantly in the past few years. This may be due in part to the collapse of the sub prime mortgage market in 2008 which caused some lenders to look for new sources of revenue. As is true with any consumer transaction, seniors need to keep in mind the familiar Latin phrase "caveat emptor" or “let the buyer beware.” A reverse mortgage is a complex financial transaction. Before signing on the dotted line, you should take the time to get your questions answered, carefully review the paperwork, and evaluate whether a reverse mortgage fits your individual circumstances. A reverse mortgage is a mortgage loan, available to persons age 62 and older, for which repayment is not required until the homeowner sells the home, moves out permanently, or dies. The property must be the owner’s principal residence. The lender makes the loan primarily based on the value of the home and the amount of equity in the home; however the homeowner will have to show that he/she has sufficient income to pay ongoing expenses such as property taxes and insurance. The amount of the loan can be paid in either a lump sum, in monthly installments, as a line of credit that the homeowner can draw upon as needed, or a combination of these options. The interest on the loan accrues and is compounded during the term of the loan. This means that the amount of money owed on the loan increases over time. At the time the home is sold the amount owed on the mortgage loan is paid to the lender and the homeowner keeps the remaining proceeds. If the amount owed at the time of sale is more than the sale price the homeowner does not owe the difference to the lender; the loan is considered a “non-recourse loan”. A reverse mortgage can be a useful financial option for seniors who expect to live in their home for some time and who have sufficient income to pay the ordinary expenses of homeownership, but would like to have additional cash available for unanticipated expenses, home repairs, emergencies, or extras such as hobbies or travel. For many seniors the accumulated equity in their home is their primary financial asset. A reverse mortgage allows them to withdraw some of that asset to meet pressing needs or to pay for extras. Before entering into a reverse mortgage there are several factors that should be considered. The fees and costs charged in connection with the loan are higher than those charged in connection with traditional mortgage loans. These fees are usually added to the principal of the loan rather than paid upfront at the time of closing. Thus interest accrues on these fees and costs over the term of the loan. If the homeowner expects to move from the home in a few years a reverse mortgage can be an expensive form of credit. Under the current Medicaid rules the proceeds from a reverse mortgage are considered a countable asset.. This is change from the prior rule which treated the proceeds as an exempt asset if the funds were kept in a separate account and the account did not earn interest. Under the current SSI rules the payments from a reverse mortgage are not income, but if the proceeds are not spent within the month of receipt they will count as a resource in the month following the month of receipt. It is generally not a good idea to use the proceeds of a reverse mortgage to purchase an annuity. The purchase of an annuity will involve payment of additional fees, which are often hidden – reducing the interest rate that you would otherwise earn on your investment – or buried in the fine print. If you purchase a deferred annuity you will not have to pay income tax on the earnings during the deferral period but once you begin receiving monthly payments the portion of the payment attributable to accrued earnings will be taxable. Most deferred annuities are subject to a surrender penalty if the annuity is cashed in early. The cash surrender value of an annuity is a countable asset for Medicaid eligibility. A reverse mortgage works best for seniors who expect to remain in their homes for a substantial period of time. Of course we cannot predict the future, and if the senior’s health status changes and he/she can no longer live in the home the reverse mortgage will become due and payable after the senior moves from the home. This usually means that the home has to be sold in order to pay off the mortgage. Reverse mortgages that are FHA-insured are called Home Equity Conversion Mortgages (HECM). Non-FHA-insured reverse mortgages, or “proprietary mortgages”, are also available and are typically used when the amount of the loan that the homeowner is seeking exceeds the FHA limit. One of the requirements for a HECM is that the borrower must receive mortgage counseling from a HUD-approved mortgage counseling agency. This can help you evaluate whether a reverse mortgage is a good option based on your individual circumstances. You can find a lot of information on reverse mortgages at the AARP website, www.aarp.org. |
