Refinancing to a reverse mortgage can help eligible homeowners improve cash flow by eliminating mortgage payments and providing additional income. This can be useful in cases where homeowners are living on a fixed income or need additional cash flow, but reverse mortgages should be carefully considered among homeowners, their families, and their financial advisers.
Reverse Mortgages: How They Work
A reverse mortgage is so called due to the way it's structured. A mortgage amount is approved based on home value, current mortgage rates, and borrower age. The reverse mortgage amount may be withdrawn as a lump sum, through periodic payments, or accessed with a line of credit. In some cases, a combination of options can be used. Additional features of reverse mortgages include:
- Borrowers must occupy the home being mortgaged as their primary residence.
- No payments are due until the mortgaged home is sold or otherwise vacated by the borrowers.
- Mortgage interest charged on a reverse mortgage accrues until the loan is paid off. The amount owed on a reverse mortgage increases until it is paid.
- The debt owed on a reverse mortgage typically does not exceed the value of your home at the time the reverse mortgage comes due. This protects you and your heirs from paying amounts greatly exceeding your home's selling price.
- Although it's possible to have lender fees and closing costs deducted from the maximum amount you can withdraw, this reduces the amount available for your use.
- Reverse mortgages are costly compared to traditional mortgages and home equity financing. The total annual loan cost (TALC) appears on mortgage quotes for reverse mortgages. Review and compare TALC estimates for any reverse mortgages you're considering. The TALC is comparable to the annual percentage rate (APR) shown on mortgage quotes for traditional home loans and home equity loans and lines of credit. With today's mortgage rates remaining relatively low, traditional refinancing and home equity loans may be affordable alternatives to a reverse mortgage.
Your Reverse Mortgage: Looking into a Crystal Ball
Considering a reverse mortgage requires estimating your current needs and the potential for increasing expenses and financial setbacks. These can include:
- Living expenses: The cost of food, clothing, and household needs typically increases over time. If you refinance to a reverse mortgage too soon, you risk running out of money.
- Tax assessments and hazard insurance: Homeowners are responsible for paying property taxes, hazard insurance, supplemental assessments, and condominium fees. Budgeting for annual taxes and insurance is helpful, but doesn't provide for additional expenses or assessments associated with maintaining your home or repair and improvement of public fixtures such as public sidewalks, streets, and lighting.
- Home maintenance and repair: You'll need to keep your home repaired and maintained; failure to take care of your home could lead to your mortgage lender calling your loan.
- Health care and home accommodations: Growing older brings additional health care costs and can create a need for in-home care, hospitalization, or modifying your home for accommodating disabilities. Maintaining emergency savings, sufficient insurance coverage, and not taking out a reverse mortgage too soon can help with preventing a financial crisis due to changing circumstances.
- Fluctuating financial assets: Recent economic conditions clearly illustrate what can happen to savings and investments. Your reverse mortgage withdrawals may not be adequate if you're depending on additional income from assets that could lose substantial value
Reverse Mortgages and Your Heirs
If you're planning to leave your home to your heirs, it's important to discuss refinancing to a reverse mortgage with them. If you take out a reverse mortgage, and live in your home for many years while drawing out your home equity, your heirs will have to sell your home to pay off your reverse mortgage. They may not realize any proceeds from selling your home if your reverse mortgage balance approaches the property's value.