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What a Reverse Mortgage Is
Unlike normal or "forward" mortgages, a reverse mortgage is a loan against your
home that you do not have to pay back for as long as you live there. You get the cash now or
in monthly payments and do not have to repay it. You don't have to pay anything back until you die, sell your home, or
permanently move out of it.
Who Qualifies for a Reverse Mortgage
To qualify for a normal mortgage you must have a monthly income enough that lets you afford
to pay back the loan. Not so for reverse mortgages. If you own a house, you could
have no income at all and still be eligible for a reverse mortgage
because you don't need to repay it back. If you want to increase the amount of money available to
fund your retirement, but don't like the idea of making payments on a loan, a
reverse mortgage is an option worth considering.
Reverse mortgages are intended for seniors
who owned a home for long enough to have grown a sizable equity on
it, due to rise in real estate value and the many payments done to
amortize current debt. For example, if the price of your home was $200,000 when you purchased
it 15 years ago, it is likely that its value may be now $300,000 and if you still owe $50,000
of your current mortgage, then your home equity is $250,000 (home equity is the home value less
the debt on it).
Escalating real-estate prices have caused
many senior's homes to skyrocket in value, but this gain is inaccessible
to them while they live, unless they sell their home. The reverse mortgage is a way
to tap those gains. Of course this means to consume the inheritance of
their heirs, but opens a way to enjoy in life what they earned, if
needed, instead of leaving it for the heirs. At the end of the loan,
when the mortgage holder dies, the lender sells the house and gets paid
back.
How is the Reverse Mortgage Paid
A reverse mortgage must be the primary debt against the house. Other lenders must be repaid or agree to
subordinate their loans to the primary mortgage holder. The new loan pays off the
current mortgage balance and any other debt on the house, then what is left is
paid to the borrower in any of the following ways:
- All at once, in a single lump sum of cash.
- As a regular monthly check or cash advance.
- As a Line of Credit that lets you decide when and how much of your
available cash is paid to you.
- As a combination of the above payment methods.
Thus, home equity represents a source of
income in old age and can also act as an important psychological source
of financial security for older persons and families.
HECM Loans
The most common reverse mortgage is a federally-insured Home Equity Conversion Mortgage
(HECM). These mortgages are provided by the U.S. Department of Housing and Urban
Development (HUD). HECMs are the only reverse mortgages issued by the federal government,
which limits the costs to borrowers and guarantees that lenders will meet the obligations.
The maximum loan amount is limited. The origination cost of an HECM loan is limited to 2%,
and the interest rate on HECM reverse mortgages is tied to the one-year U.S. Treasury
Security Rate. Borrowers have the option to select an interest rate that can
change every year or one that can change every month. A yearly adjustable
rate changes by the same rate as any increase or decrease in the one-year
U.S. Treasury security rate. This annual adjustable rate is capped at 2% per
year or 5% over the life of the loan. A monthly adjustable rate mortgage
begins with a lower interest rate than the annual rate mortgage and adjusts
each month. It can move up or down 10% over the life of the loan.
Other Reverse Mortgages
Non-HECM reverse mortgages are available from a variety of lending
institutions. You can find a directory of them in our
Mortgage Lenders
Directory. The primary advantage of these reverse mortgages is that they
offer loans in amounts that are higher than the HEMC limit. The main
drawbacks are that they are not federally insured and can
be significantly more expensive than HECM reverse mortgages.
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