Does a Reverse Mortgage Make Sense?

Reverse mortgages get a bad rap, but like any financial product, a reverse mortgage can be a beneficial tool when used appropriately. New requirements recently established by the Federal Housing Authority (FHA) have further strengthened its value and afford additional protection to both borrowers and their spouses. Most of the people that approach us about reverse mortgages are older—they are often widowed and live alone and/or are faced with large long-term care bills, and are hoping to keep their homes while accessing additional income. Home Equity Conversion Mortgages (HECMs), the technical term for what make up the vast majority of reverse mortgages, allow you to tap into liquid capital from what’s often your biggest asset: your home.

What is a Reverse Mortgage?

When you take out a reverse mortgage, the bank pays you a mortgage payment every month, providing you with tax-free income. You are essentially converting the equity of your home into cash. When you die or move out of your home, you (or your heirs) pay back what you borrowed, plus interest. Because interest is added, your overall balance may ultimately exceed the value of your home. However, when the loan becomes due for the reasons stated above, you typically won’t be required to pay any additional balance in excess of your home’s value.
Reverse mortgages feature either adjustable or fixed interest rates, and there are pros and cons to each. These loans also require the payment of a mortgage insurance to be paid at closing. The maximum amount that can be taken out is $625,000, but this is dependent on your age (the older you are, the more you can take out, your home’s value, and other factors).

How Do You Get a Reverse Mortgage?

First, you need to be at least 62 to qualify, and you must have paid off all or nearly all of your home. While lenders used to provide reverse mortgages to nearly everyone who met the above qualifications, they’ve tightened up their rules in recent years. Today, you should expect that a reverse mortgage will require a similar amount of paperwork—including credit reports and income statements—as a traditional mortgage would. In addition, closing costs will also be similar—or sometimes more than—those of a traditional mortgage.
You also must undergo a mandatory financial counseling session, and take a careful look at your financial resources. You’ll need to ensure that you’ll be able to continue to meet your obligations to your home, including taxes and insurance. Depending your situation, the lender may require that money be held in what’s called a Life Expectancy Set Aside (LESA) to pay for these expenses. In fact, some people take a reverse mortgage simply to pay towards their taxes and insurance each month so that they no longer have to worry about those bills.

When Should You Take Out a Reverse Mortgage?

While many people see reverse mortgages as a last resort, the truth is that these loan products are best used early in retirement, and well before you run into dire straits.

Last month in Forbes, Wade Pfau, professor at the American College and principal at McLean Asset Management, outlined two principal benefits to this strategy, saying that, “First, coordinating retirement spending from a reverse mortgage reduces strain on the investment portfolio, which helps manage the risk of having to sell assets at a loss after market downturns. Reverse mortgages can help sidestep this risk by providing an alternative source of retirement spending after market declines, creating more opportunity for the portfolio to recover. The second potential benefit of opening the reverse mortgage early—especially when interest rates are low—is that the principal limit that you can borrow from will continue to grow throughout retirement.”

Is a Reverse Mortgage Is Right for You?

A reverse mortgage can provide invaluable income to you when you’re older and need to pay for long-term care or want to maintain your quality of life. The funds can even be used to travel or make purchases that would otherwise be out of reach, and, when this is done responsibly, it can help you enjoy the last years of your life rather than worry about how you’ll get by. Despite its appeal, the most advantageous financial move is to sell your home, downgrade to smaller and less costly dwellings. However, if you, like many older people, consider selling your home to be is out of the question for sentimental, emotional, or logistical reasons, a reverse mortgage allows you to remain your home as long as possible.

Deciding to take out a reverse mortgage requires an understanding of your entire financial picture, and identifying how a reverse mortgage would support your personal wishes, quality of life expectations, and financial goals. A reverse mortgage is a complex borrowing tool that must be carefully considered and understood in order for it to be used appropriately. That’s where we come in. We take a deep dive into your finances as well as your expectations and wishes for your remaining years. Once we understand the big picture, we can guide you in making the best financial decisions for your situation. Give us a call today to get the conversation started!