When used correctly, a reverse mortgage, also known as the Home Equity Conversion Mortgage (HECM), can add stability to your retirement years. However, as with any financial product, it is not always the best program for everyone.
We published this pros and cons guide to help you make an informed decision about reverse mortgages and determine if this program suits your long-term retirement goals.
First, the downsides:
#1. Reverse mortgages can have higher closing costs than traditional mortgages
Reverse mortgages can be expensive loans due to upfront financed origination fees. With the government-insured reverse mortgage (HUD HECM), borrowers have both 2% upfront and .50% annual renewal mortgage insurance premiums (MIP) to pay.
The insurance insures borrowers and lenders against the risk of default, but it also ensures that borrowers and their heirs will never have to repay the loan for more than the property is worth, regardless of how high the balance increases or if future property values fall.
Even though not paid out of pocket, the costs can be a substantial downside of the reverse mortgage to homeowners sensitive to closing costs. Borrowers can receive lender credits to pay for a portion or a substantial portion of their costs, but this is only sometimes the case. It would be best to shop around for the best deal available.
The lender credits that were commonplace before interest rates shot up in 2021 have all but disappeared during the higher rates and inflation of 2022 and 2023.
This does not mean that lender credits will not be available again in the future, so be sure to check to see if lenders offer any credits to help pay your costs when you request proposals.
Cost Saving Idea: Consider Proprietary or Jumbo Reverse Mortgages
Borrowers with homes worth more than the HUD maximum lending limit of $1,089,300 receive no additional benefit for any additional value above that limit.
Therefore, those owning higher-valued homes may prefer a private or proprietary reverse mortgage. These loans are called jumbo reverse mortgages due to being used primarily for higher-valued properties.
Because these loans are not government-insured, they require no mortgage insurance, but the interest rates are higher. The higher rate may be refinanced later, but since the jumbo programs have no mortgage insurance, borrowers can save as much as $21,786 in Upfront Mortgage Insurance costs.
#2. May impact needs-based programs
Reverse mortgage proceeds are not income. However, if borrowers draw funds and allow them to accumulate in their checking/savings accounts, they may nullify their qualifications.
Another possible drawback for borrowers with a reverse mortgage can be the accumulation of funds in their accounts if they rely on needs-based programs such as Medicaid or SSI.
Special care must be taken only to draw funds as needed and then be sure they are gone from the borrower’s accounts before month-end when borrowers must supply statements to various entities to receive ongoing benefits.
(Note: Regular Social Security and Medicare are not affected by taking a reverse mortgage.)
#3. Bad actors
Trusting seniors are targets for people looking to use them for bad investments, families with failing businesses, unscrupulous caretakers, and others looking to take advantage.
Too often, when we see reverse mortgage funds lost, it was not the reverse mortgage that failed but how the money was spent/invested.
#4. Older versions lacked spousal protection
Fortunately, HUD changed its guidelines. Unlike loans closed before 2015, spouses of reverse mortgage borrowers under 62 years of age at the time the loans closed are now protected as an “eligible non-borrowing spouse.”
Non-borrowing must also maintain the home in a reasonable manner, pay the property taxes and insurance on time, and live in the home as their primary residence to keep their deferred status and avoid having the loan called. This is nothing more than the original borrower also agreed to with the loan.
Borrowers and spouses must remember that eligible, non-borrowing spouses are not borrowers on the loan. As such, they cannot access any line of credit funds that may still be available after the eligible borrower passes.
This means that if there is a line of credit with funds remaining unborrowed and the borrower passes, the non-borrower spouse can remain living in the home and does not have to repay the loan right away under the terms of the reverse mortgage but will not have access to draw those unborrowed funds.
While it is important to note that non-borrowing spouses are protected in the event of the death of the borrowing spouse, the loan may still be called due and payable if the borrowing spouse should leave home for any other reason.
So borrowers need to consider this when making their plans and decisions about a reverse mortgage with a spouse who is not yet 62.
Now for the Pros!
#1. With a reverse mortgage, there are no monthly mortgage payments
A reverse mortgage allows eligible borrowers to live the rest of their life in their homes without monthly mortgage payments. Less income is needed to qualify for a reverse mortgage than a traditional forward loan.
Remember, you and the lender still want to be sure you can maintain future property charges, such as taxes and insurance, because you still need to pay those on time.
#2. You can use funds for virtually anything
Take your funds in a single lump sum payment, flexible line of credit, monthly payments for a set term or life, or a combination of these options (i.e., a line of credit to use for home improvements and a monthly payment for life).
Reverse mortgage proceeds are loan funds. Therefore, they are treated like other loans and are not considered income (check with your tax advisor). You can use the money for any purpose or need you may have.
– Use ARLO’s reverse mortgage calculator to receive an instant quote, eligibility & HECM loan options.
#3. Guaranteed line of credit for life
As long as you have funds left on your line of credit and meet your obligations, HUD ensures your funds are always available. Banks have been known to freeze or eliminate HELOC lines of credit without advance notice.
They also come to the end of the “draw period,” when you enter a repayment phase where funds are no longer available. Payments can double or triple when your income is less than when you received your loan.
Knowing this cannot happen with the reverse mortgage line of credit is comforting. No matter how long you live in your home, how many payments you take, or what happens to the real estate values, you cannot be forced to sell and repay the loan due to the outstanding balance, and your heirs can never be forced to pay more than the home is worth.
The loan is also “non-recourse,” which means that the only security for the loan is the home (the lender and HUD cannot look to any other assets to repay the loan).
#4. Ability to purchase a new home
You can use a reverse mortgage to refinance your existing mortgage or purchase a new home.
This works exceptionally well for those who:
- Want to buy a home
- Need to get a home that will better suit their needs
- Need to lower their expenses
In the past, seniors purchasing homes were often forced to pay cash for a new home due to their income scenario.
Borrowers who could not pay all cash, or wanted to use only some cash from the sale of their existing home, can now buy their new home using the reverse mortgage without ever having to make a monthly mortgage payment.
The reverse mortgage works well for seniors seeking homes they may not have been able to consider otherwise. New homes in 55+ developments, where prices might have kept them from the home of their dreams if they had to pay 100% cash or be able to qualify with higher mortgage payments, are now attainable.
A move that may have been out of the question with a traditional loan, like those who need to move closer to support systems like needed services, family, and friends, can do so with a reverse mortgage.
Reverse Mortgage vs. Conventional Loans
Reverse Traditional HELOC
Allows No Monthly Payments ✅ ❌ ❌
Line of Credit Growth? (Available funds in Line of Credit grow in availability over time.) ✅ ❌ ❌
Limited Credit Qualifications ✅ ❌ ❌
Limited Income Qualifications ✅ ❌ ❌
Flexible Proceeds? (Monthly Payments, Line of Credit, Lump Sum, etc.) ✅ ❌ ❌
Investment Properties (Reverse Mortgages & HELOC must remain your primary residence.) ❌ ✅ ❌
Low Closing Cost Options ❌ ✅ ✅
Assumable? ❌ ✅ ✅
What are the benefits of a reverse mortgage?
What are the drawbacks of a reverse mortgage?
When is a home equity loan better than a reverse mortgage?
Does the bank own the house if I get a reverse mortgage?
Do you need a good credit score to get a reverse mortgage?
Is a reverse mortgage right for you?
It’s crucial when planning to think long-term. Retirement is tricky, and people are living longer. If you choose a reverse mortgage now and later decide to move, you might have less available equity for your next purchase.
Suppose your current home is fully accessible, and you can stay for the foreseeable future. In that case, the reverse mortgage can help fund a more secure retirement.
We have seen reverse mortgages do great things for people who wanted and needed them. However, with your trusted financial advisor and family, only you can decide if this is the right loan for you!