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Your Money Matters by Thomas Sottile, Esq.
Before Signing Up, It’s A Good Idea
To Understand Reverse Mortgages
By Thomas Sottile, Esq.
Contributing Writer
The old adage that you don’t need to know how an engine works to drive a car certainly is suitable for automobiles. But when it comes to financial transactions involving the family home, such as reverse mortgages, understanding the nuts and bolts of how the thing fits together is crucial to getting to where we want to go with all of our assets intact. Reverse mortgages are a special type of home loan that lets a homeowner convert the equity in his/her home into cash. Equity is the difference between the appraised value of a home and what is owed on any mortgages.
According to the U.S. Department of Housing and Urban Development (HUD), reverse mortgages are becoming increasingly popular among older Americans as a way to gain greater financial security to supplement Social Security benefits, meet unexpected medical expenses, and make home improvements and more. However, using the equity in one’s home is a decision which must be considered carefully since for many of us our home is our most valuable financial asset.
For senior citizens especially, making use of home equity can be a difficult choice emotionally as well, simply because most of us view the home as a place to live rather than as an economic resource. Anything which might put our humble abode at risk gives us great pause. Nonetheless, the realities of a fixed income and having the need for a large expenditure may necessitate going in this direction.
In a regular mortgage, a borrower makes monthly payments to the lender. In a reverse mortgage the money comes in the other direction: the homeowner uses her equity to receive money from the lender. Generally, it does not have to be paid back as long as the homeowner lives in the home. The loan is repaid when the homeowner passes away, the home is sold, or when the person’s home is no longer her primary residence. The proceeds from a reverse mortgage usually are tax free, and many reverse mortgages have no income restrictions, according to the Federal Trade Commission (FTC).
Reverse mortgages come in three varieties. First there is the single-purpose reverse mortgage, which is offered by some state and local government agencies and nonprofit organizations, and is considered the least expensive option. They are not available everywhere and can be used for only one purpose, which is specified by the government or nonprofit lender. For example, the lender might say the loan may be used only to pay for home repairs, improvements, or property taxes. Most homeowners with low or moderate income can qualify for these loans.
The second type is the federally-insured reverse mortgage, known as the Home Equity Conversion Mortgage (HECM), which is backed by HUD. The Third is the proprietary reverse mortgage which is a private loan.
HECMs and proprietary reverse mortgages may be more expensive than traditional home loans, and the upfront costs can be high. That’s important to consider, especially if a person plans to stay in her home for just a short time or borrow a small amount. HECM loans are widely available, have no income or medical requirements, and can be used for any purpose.
Before applying for a HECM, the homeowner must meet with a counselor from an independent government-approved housing counseling agency. Some lenders offering proprietary reverse mortgages also require counseling. The counselor is required to explain the loan’s costs and financial implications, and possible alternatives to a HECM, like government and nonprofit programs or a single-purpose or proprietary reverse mortgage. The counselor also should be able to help the borrower compare the costs of different types of reverse mortgages and tell her how different payment options, fees, and other costs affect the total cost of the loan over time.
How much a person can borrow with a HECM or proprietary reverse mortgage depends on several factors, including age, the type of reverse mortgage selected, the appraised value of the home, and current interest rates. In general, the older the borrower is, the more equity they have in their home; and the less they owe on it, the more money they can get.
Also, the HECM lets the borrower choose among several payment-receiving options. The “term” option pays a fixed monthly cash advance for a specific time. The “tenure” option pays a fixed monthly cash advance for as long as the borrower lives in the home. The “line of credit” option allows the loan proceeds to be drawn down at any time in amounts as needed until they are used up. A combination of the monthly payments and the credit line features also is available. The option selection can be changed for a nominal fee after the reverse mortgage is acquired, advises the FTC.
There are many aspects to consider before signing up for a reverse mortgage, and the guidance of a financial advisor or counselor is recommended. Reverse mortgage loan advances are not taxable, and generally don’t affect a retiree’s Social Security or Medicare benefits. She retains the title to her home, and does not have to make monthly repayments. The loan must be repaid when the last surviving borrower dies, sells the home, or no longer lives in the home as a principal residence.
In the HECM program, a borrower can live in a nursing home or other medical facility for up to 12 consecutive months before the loan must be repaid.
Like all major financial dealings, there are characteristics to be wary of with reverse mortgages. Lenders generally charge an origination fee, a mortgage insurance premium (for federally-insured HECMs), and other closing costs for a reverse mortgage. Lenders also may charge servicing fees during the term of the mortgage. The lender sometimes sets these fees and costs, although origination fees for HECM reverse mortgages currently are dictated by law.
Upfront costs can be lowered if a smaller amount is borrowed through a reverse mortgage product called a “HECM Saver.” The HECM Saver differs from the traditional HECM Standard Program in that eligible borrowers age 62 and older will be charged significantly lower upfront fees. However, the lower upfront fees do result in less money being made available to the borrower than is available under the HECM Standard.
In addition, the amount owed on a reverse mortgage grows over time. Interest is charged on the outstanding balance and added to the amount owed each month. That means the total debt increases as the loan funds are advanced and interest on the loan accrues. Although some reverse mortgages have fixed rates, most have variable rates that are tied to a financial index: they are likely to change with market conditions.
As time passes, reverse mortgages can use up all or some of the equity in the home which secures it, and leave fewer assets for the borrower and her heirs. Most reverse mortgages have a “nonrecourse” clause, which prevents the borrower or her estate from owing more than the value of the home when the loan becomes due and the home is sold. However, if the borrower wants to retain ownership of the home, she usually must repay the loan in full - even if the loan balance is greater than the value of the home.
The FTC warns that some unscrupulous lenders may try to mislead people about the key features of a reverse mortgage. Others may claim they’re part of the federal government when they’re not, or give the false impression that the reverse mortgage is an entitlement rather than a loan the client must repay.
Some companies may pressure homeowners to use the proceeds from a reverse mortgage to buy some other financial products that they might be selling, like annuities, long term care insurance, or investments, which may be unnecessary or unsuitable for them. Still other companies may try to persuade homeowners that a reverse mortgage would be an easy way to pay for home repairs or a vacation when a different type of loan may be a better option.
The focus for anyone in the market for a reverse mortgage must be on the essential features; interest rate, fees, loan payments and total cost, which may be compared with what is offered elsewhere from alternate vendors.
The FTC’s “Bureau of Consumer Protection Business Center” (www.ftc.gov) and HUD’s “Senior Page” (www.hud.gov), offer specific information related to reverse mortgages. It is worthwhile for any of us looking to acquire this financial product to do the homework in order to understand exactly how much we are getting in return for the equity in our home, and how much it really is costing us.
*
Thomas Sottile is an attorney in Media, PA. He retired from the U.S. Postal Inspection Service after 23 years as an investigator and attorney.
Before Signing Up, It’s A Good Idea
To Understand Reverse Mortgages
By Thomas Sottile, Esq.
Contributing Writer
The old adage that you don’t need to know how an engine works to drive a car certainly is suitable for automobiles. But when it comes to financial transactions involving the family home, such as reverse mortgages, understanding the nuts and bolts of how the thing fits together is crucial to getting to where we want to go with all of our assets intact. Reverse mortgages are a special type of home loan that lets a homeowner convert the equity in his/her home into cash. Equity is the difference between the appraised value of a home and what is owed on any mortgages.
According to the U.S. Department of Housing and Urban Development (HUD), reverse mortgages are becoming increasingly popular among older Americans as a way to gain greater financial security to supplement Social Security benefits, meet unexpected medical expenses, and make home improvements and more. However, using the equity in one’s home is a decision which must be considered carefully since for many of us our home is our most valuable financial asset.
For senior citizens especially, making use of home equity can be a difficult choice emotionally as well, simply because most of us view the home as a place to live rather than as an economic resource. Anything which might put our humble abode at risk gives us great pause. Nonetheless, the realities of a fixed income and having the need for a large expenditure may necessitate going in this direction.
In a regular mortgage, a borrower makes monthly payments to the lender. In a reverse mortgage the money comes in the other direction: the homeowner uses her equity to receive money from the lender. Generally, it does not have to be paid back as long as the homeowner lives in the home. The loan is repaid when the homeowner passes away, the home is sold, or when the person’s home is no longer her primary residence. The proceeds from a reverse mortgage usually are tax free, and many reverse mortgages have no income restrictions, according to the Federal Trade Commission (FTC).
Reverse mortgages come in three varieties. First there is the single-purpose reverse mortgage, which is offered by some state and local government agencies and nonprofit organizations, and is considered the least expensive option. They are not available everywhere and can be used for only one purpose, which is specified by the government or nonprofit lender. For example, the lender might say the loan may be used only to pay for home repairs, improvements, or property taxes. Most homeowners with low or moderate income can qualify for these loans.
The second type is the federally-insured reverse mortgage, known as the Home Equity Conversion Mortgage (HECM), which is backed by HUD. The Third is the proprietary reverse mortgage which is a private loan.
HECMs and proprietary reverse mortgages may be more expensive than traditional home loans, and the upfront costs can be high. That’s important to consider, especially if a person plans to stay in her home for just a short time or borrow a small amount. HECM loans are widely available, have no income or medical requirements, and can be used for any purpose.
Before applying for a HECM, the homeowner must meet with a counselor from an independent government-approved housing counseling agency. Some lenders offering proprietary reverse mortgages also require counseling. The counselor is required to explain the loan’s costs and financial implications, and possible alternatives to a HECM, like government and nonprofit programs or a single-purpose or proprietary reverse mortgage. The counselor also should be able to help the borrower compare the costs of different types of reverse mortgages and tell her how different payment options, fees, and other costs affect the total cost of the loan over time.
How much a person can borrow with a HECM or proprietary reverse mortgage depends on several factors, including age, the type of reverse mortgage selected, the appraised value of the home, and current interest rates. In general, the older the borrower is, the more equity they have in their home; and the less they owe on it, the more money they can get.
Also, the HECM lets the borrower choose among several payment-receiving options. The “term” option pays a fixed monthly cash advance for a specific time. The “tenure” option pays a fixed monthly cash advance for as long as the borrower lives in the home. The “line of credit” option allows the loan proceeds to be drawn down at any time in amounts as needed until they are used up. A combination of the monthly payments and the credit line features also is available. The option selection can be changed for a nominal fee after the reverse mortgage is acquired, advises the FTC.
There are many aspects to consider before signing up for a reverse mortgage, and the guidance of a financial advisor or counselor is recommended. Reverse mortgage loan advances are not taxable, and generally don’t affect a retiree’s Social Security or Medicare benefits. She retains the title to her home, and does not have to make monthly repayments. The loan must be repaid when the last surviving borrower dies, sells the home, or no longer lives in the home as a principal residence.
In the HECM program, a borrower can live in a nursing home or other medical facility for up to 12 consecutive months before the loan must be repaid.
Like all major financial dealings, there are characteristics to be wary of with reverse mortgages. Lenders generally charge an origination fee, a mortgage insurance premium (for federally-insured HECMs), and other closing costs for a reverse mortgage. Lenders also may charge servicing fees during the term of the mortgage. The lender sometimes sets these fees and costs, although origination fees for HECM reverse mortgages currently are dictated by law.
Upfront costs can be lowered if a smaller amount is borrowed through a reverse mortgage product called a “HECM Saver.” The HECM Saver differs from the traditional HECM Standard Program in that eligible borrowers age 62 and older will be charged significantly lower upfront fees. However, the lower upfront fees do result in less money being made available to the borrower than is available under the HECM Standard.
In addition, the amount owed on a reverse mortgage grows over time. Interest is charged on the outstanding balance and added to the amount owed each month. That means the total debt increases as the loan funds are advanced and interest on the loan accrues. Although some reverse mortgages have fixed rates, most have variable rates that are tied to a financial index: they are likely to change with market conditions.
As time passes, reverse mortgages can use up all or some of the equity in the home which secures it, and leave fewer assets for the borrower and her heirs. Most reverse mortgages have a “nonrecourse” clause, which prevents the borrower or her estate from owing more than the value of the home when the loan becomes due and the home is sold. However, if the borrower wants to retain ownership of the home, she usually must repay the loan in full - even if the loan balance is greater than the value of the home.
The FTC warns that some unscrupulous lenders may try to mislead people about the key features of a reverse mortgage. Others may claim they’re part of the federal government when they’re not, or give the false impression that the reverse mortgage is an entitlement rather than a loan the client must repay.
Some companies may pressure homeowners to use the proceeds from a reverse mortgage to buy some other financial products that they might be selling, like annuities, long term care insurance, or investments, which may be unnecessary or unsuitable for them. Still other companies may try to persuade homeowners that a reverse mortgage would be an easy way to pay for home repairs or a vacation when a different type of loan may be a better option.
The focus for anyone in the market for a reverse mortgage must be on the essential features; interest rate, fees, loan payments and total cost, which may be compared with what is offered elsewhere from alternate vendors.
The FTC’s “Bureau of Consumer Protection Business Center” (www.ftc.gov) and HUD’s “Senior Page” (www.hud.gov), offer specific information related to reverse mortgages. It is worthwhile for any of us looking to acquire this financial product to do the homework in order to understand exactly how much we are getting in return for the equity in our home, and how much it really is costing us.
*
Thomas Sottile is an attorney in Media, PA. He retired from the U.S. Postal Inspection Service after 23 years as an investigator and attorney.