Have you heard the saying, “I was today-years-old when …”? It’s become a fun, popular way of announcing that you just learned something for the first time, or that a myth you’ve long believed to be true has been busted. For example, “I was today-years-old when I learned that a 50/50 coin toss really isn’t 50/50.” It’s a bit of a myth, according to a Stanford University study that reports it’s actually closer to 51/49, due to a slight bias toward whatever side was up when the coin was flipped. Remember that next time you’re making a decision by tossing a coin!
I enjoy myth-busters and learning new facts. As someone who works with reverse mortgages, I often have to dispel myths and misconceptions myself. This financial tool has really evolved and improved since it was first introduced by the Federal Housing Administration (FHA) in 1989, but reverse mortgages still get unfortunate, negative publicity at times. It is important to note, just like any financial product, this type of loan can be great for some, but not the right fit for others. In many cases, homeowners 62-years-old and over have used reverse mortgages to gain retirement income, reduce monthly housing expenses, and even pay for home repairs and improvements.
Let’s spend some time learning about reverse mortgages and then dispelling the most popular misconceptions, so you have the information you need to decide if it’s a good tool for you. After all, having correct information is a much better way to make important decisions than a 50/50 — I mean a 51/49! — coin toss.
Before we get into the myths, let’s understand what reverse mortgages actually are and how they work.
What Are Reverse Mortgages?
Reverse mortgages are a special type of loan for people 62 and older. There are several kinds of reverse mortgages, but the most popular, the one we’ll be talking about, is known as a home equity conversion mortgage, or HECM for short. HECMs are insured by the FHA. They allow you to convert a portion of the equity in your home into spendable funds or to refinance an existing mortgage and eliminate monthly mortgage payments.
It’s called a reverse mortgage because you don’t make monthly mortgage payments; instead, you have access to funds by borrowing against the equity in your home. What you have to remember is that it is a loan. When the reverse mortgage ends — when you permanently move out or pass away — the money you’ve borrowed, plus interest, is deducted from the value of the house.
When applying for a reverse mortgage, lenders will use the following to determine your eligibility and loan amount:
- The age of the youngest spouse
- Current interest rates
- Value of your home
After being approved, you can receive the funds from a reverse mortgage in several different ways, including:
- A lump sum
- A line of credit
- Regular monthly payments from the lender
- A combination of these options
How Do People Use Reverse Mortgages?
With a reverse mortgage, the first thing you have do is use the loan to pay off the existing mortgage on your home (if you still have a mortgage balance). This is actually one of the most popular reasons to get this type of loan. Once you pay off your current mortgage, you’ll no longer have monthly mortgage payments!
Once your existing mortgage has been taken care of, the remaining proceeds from your reverse mortgage loan can be used for any reason.
Reverse mortgages are commonly used to:
- Pay off medical bills, vehicle loans or other debts.
- Supplement your retirement income and improve monthly cash flow.
- Delay Social Security benefits to maximize the monthly benefit when you do begin to receive Social Security.
- Fund necessary home modifications, repairs or renovations.
- Build a safety net for unplanned expenses.
- Pay for in-home care.
- Help children, grandchildren or other loved ones pay for major expenses.
- And more!
A word of advice: You have worked hard to make your home an asset, and prudence, along with budgeting, should be the proper approach to enjoying proceeds received from your reverse mortgage loan.
The Top 5 Myths About Reverse Mortgages
Now that we’ve covered the basics, let’s dispel the myths surrounding reverse mortgages and learn even more about this type of loan.
MYTH 1: The lender takes the title and owns the home.
You actually retain the title and ownership during the life of the loan, and you can sell your home at any time (at which time the loan becomes due and payable). The loan will not become due and subject to repayment as long as you continue to meet loan obligations, such as:
- Living in the home as your primary residence
- Maintaining and keeping the home in good condition according to FHA requirements, and
- Paying property taxes and homeowners insurance
MYTH 2: The home automatically reverts to the lender after the borrowers pass away.
The reverse mortgage ends when all borrowers and eligible non-borrowing spouses no longer occupy the property. When the reverse mortgage ends, the loan becomes due and payable.
Heirs are not able to keep the reverse mortgage, but do have several choices. If the loan balance is less than the home value, they can sell the home, repay the loan and keep the difference. Heirs still have the option of keeping the property, even if more is owed than what the home is worth, by buying the property for 95 percent of its current market value.
MYTH 3: When the lender distributes funds to you through a reverse mortgage, you are required to pay taxes on those funds.
Generally, reverse mortgage payments are considered loan proceeds, not income, and should be tax-free. You must continue to pay required property taxes, however.
MYTH 4: You could end up owing more than your house is worth with a reverse mortgage.
Because reverse mortgages are FHA-insured, non-recourse loans, you and your heirs are not liable for more than what the home is worth.
Here’s an example to help you understand:
As a loose rule of thumb, there needs to be around 50 percent equity in a home (meaning what you owe is at most half of what it is appraised at) to qualify for a reverse mortgage. For example, if your home appraised for $400,000, you could borrow up to $200,000 against the equity. When the reverse mortgage ends, if the value of the home has gone down to $300,000, you still only owe the $200,000 plus interest. Similarly, if the value of the home goes up, you only owe $200,000 plus interest.
MYTH 5: Only low-income individuals need reverse mortgages.
The perception of the reverse mortgage as an assist for the low-income borrower is changing. Many affluent senior borrowers with multimillion-dollar homes and healthy retirement assets are using reverse mortgages as part of their financial and estate planning. They work closely with financial professionals and estate attorneys to determine how this type of loan can enhance their overall quality and enjoyment of life.
Yes, reverse mortgages can appear to be a complex loan product, but you don’t have to go it alone. We’re happy to provide even more information, just reach out! Plus, to qualify, you have to commit to approved reverse mortgage counseling, per the FHA. This ensures you have all the information you need to make an informed decision. No relying on an old-fashioned coin toss! You can save that for something fun, like where to go for dinner. Just remember that bias toward whatever side was up when the coin was flipped, and use it to your advantage!
Janell Holden is a reverse mortgage advisor for Bank of Utah.