I had a long conversation with a potential borrower yesterday. He said that he had spoken with a couple of loan originators and had a few concerns. One of the originators told him that there were no reverse mortgage disadvantages and the other worked for the largest reverse mortgage company in the United States and told him that she did not know the down sides yet, that she was brand new and could he give her a few days to look into it and call him back. As any rate, he was concerned (and rightly so) that he was not getting the whole picture and asked me to please be honest with him regarding any pitfalls of the program.
This is an easy task for me. As good as I think the HUD Home Equity Conversion Mortgage (HECM or “Heck-um”) is, I also really believe that it is not the right loan for everyone and I let everyone know that in our conversations. One drawback to the HECM program is its cost. This is a very expensive loan and typically the largest single expense in any transaction is the FHA Mortgage Insurance which runs 2% of the appraised value or the Principal Lending Limit, whichever is less. In all but the smallest transactions, this typically outweighs any other fee. In the more expensive homes, this can amount to as much as $12,510 for the up-front insurance.
I mention this not to support a reason why a person should not get a reverse mortgage, but rather so that if a potential borrower knows the drawbacks in advance, he/she can make an informed decision. For example, the costs associated with a reverse mortgage are high, but when compared to a forced sale if a borrower cannot make their existing mortgage payments might be far less than a potential loss from a distressed sale. Or in the unfortunate case of some, the costs might be much better than the cost of losing your home to foreclosure.
Gone are the days of “no income, no asset verification” loans and therefore many seniors cannot run out and get a quick loan from their bank to save a property about to go into foreclosure, much less pay the monthly payments necessary to keep the additional debt from also falling behind on traditional mortgages. A reverse mortgage is meant to be the last loan you will ever need so borrowers tend to dwell less on high cost objections, knowing that this is not intended to be a short term solution and that the costs are spread out of a longer period of time.
Another negative of reverse mortgages is that they can use up equity in the borrowers’ homes, sometimes leaving them with nothing to leave to heirs and sometimes causing the borrowers’ to outlive their equity. Most borrowers get a reverse mortgage because they need the mortgage either to pay off an existing loan which they can either no longer afford or they need the extra funds to live on. Borrowers who have family who can help them or do not need the funds are not good reverse mortgage candidates. Those borrowers who are concerned that they may outlive their equity should consider the tenure option which is a guaranteed payment for life.
Under this program, the borrower will receive a monthly payment for life as long as they live in their home, regardless of what future home values do. The loans are non-recourse which means that the borrower or the borrower’s heirs will never have to pay more than the property is worth when they property is later sold on a bona fide sale. But the bottom line is if a borrower needs the money to live now or needs to retire an existing mortgage that they can no longer pay, and the family cannot help, then the amount left to heirs would be nothing if the senior owner lost their home to foreclosure, or the senior borrower may be forced to live completely undesirably in a strange place after having to sell the home they love.
Some government programs for seniors are based on need. Programs such as Medicare are not affected by a reverse mortgage but Medicaid and other needs based programs may be since only those borrowers who can demonstrate a real need can qualify for these programs. Seniors who obtain a reverse mortgage and then put money into their bank accounts may nullify their Medicaid eligibility and so rather than this being a total obstacle to obtaining a reverse mortgage, borrowers, their families and their financial advisors need to be aware of the borrowers’ situations and then plan accordingly.
A borrower who depends on Medicaid is not automatically excluded from being able to obtain a reverse mortgage, but the best option is for that borrower to look into the line of credit so that money may only be requested as the needs dictate. We had a borrower who was on three different needs-based programs but also needed a new roof badly on her home and some other repairs. Her financial advisor worked with us to place her line of credit reverse mortgage so that she never had excess funds in any of her accounts but was able to access the needed cash to replace the roof and make the repairs the home required.
Another real problem has nothing to do with the mortgage itself but what happens to the money. Some senior homeowners have no trouble with their reverse mortgages but then run into a scam or con designed by someone to help part them with their money. In this case, the borrowers usually are talked into taking a full draw on their reverse mortgage and then investing the money – sometimes putting the funds into a long-term investment which makes no sense for a senior homeowner and sometimes flat out stealing the money. This is not a shortfall of a reverse mortgage per se, we have seen this happen several times for borrowers coming to us for help who had the same problems with option arms and are now looking for reverse mortgages to pay them off so they can keep their homes.
One drawback not discussed yet here and you won’t see it very often but is very real is the “family factor”. Most families want their parents and grand-parents to be well taken care of. Some can afford to help and some cannot. And, although it does not happen very often, we also run into families who have already made plans for the inheritance and the friction starts as soon as they feel like that inheritance is being eaten away. Borrowers should keep their families in the decision making process so that there are no surprises or conflicts as the senior homeowner progresses with their decision to obtain a reverse mortgage.
The bottom line is that reverse mortgages are not for everyone. However, any pitfalls or disadvantages can be overcome with careful planning for the right borrowers. Only you and your family and trusted financial advisors can make the decision as to whether or not the loan is right for you. A reverse mortgage is a complex financial transaction.
Learn all you can about the loan and if you are not comfortable, keep asking questions until you become comfortable, one way or the other. You may find that as you become more and more educated about the product that it is perfect for your circumstances or that it is not the right program for you, but better to find out before you spend the money and get the loan. Any way you look at it, the potential pitfalls can be avoided with careful planning, education and informed decision making.
“Reverse Mortgage Disadvantages” by www.reverse.mortgage
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PS – We also welcome and respond to comments below…
Read your interesting comments. I am looking for a source for reverse mortgage on my Manhattan co-op. What do you advise?
Reverse Mortgage Information
I think there are many benefits of reverse mortgage, but don’t know about disadvantages of mortgage.