A reverse mortgage can provide homeowners that are 62 or older with a supplemental retirement income option. But is this a wise choice in today’s economy? Two of the biggest questions that you should be asking yourself are:

1. How severe is my need for additional income?
2. How do today’s high-interest rates affect a reverse mortgage?

However, let’s begin with what a reverse mortgage is…

What is a Reverse Mortgage?

A reverse mortgage is a home loan designed to financially support borrowers who are 62 and older. In this type of home loan, the homeowner (or homeowners, if it is owned jointly) surrenders equity in their home without having to sell their home or pay additional mortgage payments — but specific rules apply. You will likely need to repay the loan within a short amount of time if you move out of it. A reverse mortgage can be complicated and may or may not be right for you. If you do decide to look for one, review the several types of reverse mortgages, and comparison shop before you decide on a particular lender.

The most basic requirement to qualify for a reverse mortgage is that you are at least 62 years old and a homeowner. But there are additional requirements that include:

• Your home must be your principal residence, meaning you live there the majority of the year.
• Your home must be paid for in full (meaning you do not have a monthly mortgage payment). Or the outstanding balance must be small enough that the reverse mortgage can pay off the balance. In some cases, paying off the balance of your mortgage will increase your monthly discretionary income enough to help you make ends meet or improve your quality of life. However, you will be taking on a new debt with a balance that will increase each month as the interest accumulates on a debt that you are not paying down each month.
• You cannot owe any federal debt, such as federal income taxes or federal student loans. However, you may use money from the reverse mortgage loan to pay off this debt.
• You must have enough of your own money or agree to set aside part of the reverse mortgage funds to pay ongoing property charges, including taxes and insurance, as well as maintenance and repair costs.
• Your home must be in good shape. If your house does not meet the required property standards, the lender will tell you what repairs need to be made before you can get a reverse mortgage loan.
• This is an important financial decision for people entering or near retirement age when your ability to generate income declines. You must accept counseling from a HUD-approved reverse mortgage counseling agency to discuss your eligibility, the financial implications of the loan, and other alternatives.

Types of Reverse Mortgages

If you are thinking about taking out a reverse mortgage, you should first consider the three different types available. 

1. A single-purpose reverse mortgage. This is often the least expensive option (yes, reverse mortgages come at a cost) because you may be able to take these out through a state or local government agency, or a non-profit organization. These are also available from many other sources including traditional lenders, so shop around. Reasons for a single-purpose loan include paying for home repairs, improvements, or property taxes. Most homeowners with a low or moderate income can qualify for these loans.

2. Proprietary reverse mortgage. These are mostly general-purpose loans available from many lenders that offer reverse mortgages. Qualified borrowers usually have high-valued homes that are either paid off or an outstanding mortgage that is much smaller than the appraised value. These loans are typically for the largest amounts of money.

3. Home Equity Conversion Mortgages (HECMs). These are federally insured mortgages backed by the U. S. Department of Housing and Urban Development (HUD). HECM loans can be used for any purpose. You can apply for them through multiple lenders that offer HUD reverse mortgages. These tend to be more expensive than traditional home loans with high upfront costs. Because of the high cost, these may not be a good option if you’ll only be staying in the house for a short time or are only borrowing a small amount of money. 

With a HECM, there is generally no specific income requirement. However, you will be required to take counseling from a HUD-approved reverse mortgage agency and lenders must conduct a financial assessment before deciding to approve and close your loan. 

A HECM lets you choose among several payment options:

• A single disbursement option – this is only available with a fixed rate loan, and typically offers less money than other HECM options.
• A “term” option – fixed monthly cash advances for a specific time.
• A “tenure” option – fixed monthly cash advances for as long as you live in your home.
• A line of credit – this lets you draw down the loan proceeds at any time, in amounts you choose, until you have used up the line of credit. This option limits the amount of interest imposed on your loan because you only owe interest on the credit that you are using.
• A combination of monthly payments and a line of credit.

HECMs generally give you bigger loan advances at a lower total cost than proprietary loans do. In the HECM program, a borrower generally can live in a nursing home or other medical facility for up to 12 consecutive months before the loan must be repaid. Taxes and insurance still must be paid on the loan, and your home must be maintained.

How Today’s Economy Affects Your Reverse Loan Decision

With rising interest rates, surging inflation, and a potential recession on the horizon, many senior homeowners are uneasy about the current economic landscape. With the Federal Reserve raising interest rates several times, some reverse mortgages are approaching the 8.5-9% range with more Federal Reserve interest hikes likely. This presents a huge dilemma for people considering a reverse mortgage. At today’s high-interest rates, people may have missed their opportunity for a low-cost loan, or they may want to take advantage of today’s rates before they go even higher.

When the homeowner sells the property, moves out, dies, or in some cases fails to stay current with property taxes and other expenses, the reverse mortgage balance becomes due in full. This includes the principal amount borrowed as well as interest and fees that have accrued. Although you’re not making monthly payments on the loan, interest is accruing, which means your outstanding balance becomes larger every month. That means the higher the interest rate, the more the outstanding balance will go up each month. 

Reverse mortgages can have either fixed or variable interest rates. Fixed rates remain the same for the duration of the loan. Variable rates have an underlying benchmark rate. When changes occur in the benchmark rate, the variable rate for a reverse mortgage can follow suit. This means that the rate can move up or down in tandem with the benchmark rate. Changes in the Federal Reserve rate will affect variable interest rates. Choosing a fixed rate HECM offers predictability in how much interest will accrue on the balance. However, these typically required you to take the funds as a lump sum.

There are multiple ongoing costs for reverse mortgages. Each month you are charged interest and fees on top of the interest and fees that were added to your previous month’s loan balance. Ongoing costs related to a HECM may include:

• Interest.
• Annual mortgage insurance premium which is 0.5% of the outstanding mortgage balance.
• Property charges such as property taxes and homeowner’s insurance, also flood or other special insurance if applicable.
• Servicing fees paid to your lender to cover such costs as sending your account statements, distributing your loan proceeds, and making certain that you keep up with the loan requirements.

The larger your loan balance and the longer you keep your loan, the more you will be charged in ongoing costs. The best way to keep your ongoing costs low is to borrow only as much as you need.

There is a lot to understand about reverse mortgages. What else do you think borrowers should be aware of before making a decision? Please leave your comment.