A reverse mortgage is a specific type of home loan that allows a home owner (62 years of age or older) to convert a portion of equity into cash. Reverse mortgages allow seniors more financial security to supplement social security, handle unexpected medical expenses and enjoy their golden years in retirement.
The Department Housing and Urban Development (HUD) revealed that more than 300,000 seniors have used the Federally Insured Home Equity Conversion Mortgage (HECM) to convert equity into cash without having to move from their homes. And according to Alphonso Jackson, Secretary of Housing and Urban Development (HUD), reverse mortgages are playing a critical role in helping seniors to stay in their homes.
Reverse Mortgage Topics:
- Reverse Mortgages Are A Different Type of Loan
- Qualifications
- How A Reverse Mortgage Is Paid To The Borrower
- Choosing A Credit line Account
- Rising Debt - Falling Equity
- Reverse Mortgage vs Forward Mortgage
- Paying The Loan Back
- Total Amount Owed
- Out of Pocket Costs
- Other Costs
- Federal Truth-In-Lending Law
Reverse Mortgages Are A Different Type of Loan
Typically, in order to qualify for a loan, a lender will verify your income to see how much you can afford to pay back on the loan each month. With a reverse mortgage, your income is not a factor of qualification because there are no monthly payments. With most loans, if you fail to make your regular monthly payments, you face possible foreclosure on your home and can be forced to move out. This scenario can’t happen with reverse mortgages because there are no monthly payments to make.
Qualifications
To qualify for a reverse mortgage, your home must be your principal residence (live in the home more than 6 months out of the year) and all owners of the home must be 62 years of age or older. Any debt against your home (liens) must be paid off before qualifying for a reverse mortgage or an immediate cash advance from the reverse mortgage can be used to pay off the debt.
How a Reverse Mortgage is Paid
The borrower chooses how they want to be paid from the following:
- Immediate cash advance at the time of closing
- Credit line allowing the borrower to take cash as needed until the loan is used up
- Monthly cash advance for a specific amount of time you choose, for as long as you live in the home, or for the rest of your life if you use the loan to buy an annuity.
- Any combination of immediate cash advance, credit line or monthly cash advance.
Credit Line Account
The total amount of cash the borrower actually receives is contingent on how much of the credit line is used and if the credit line is “flat” or “growing.” With a flat credit line, the credit decreases each time the borrower takes a cash advance. With a growing credit line, the remaining credit line grows larger by a given rate. A growing credit line may give a borrower more cash over time than a flat credit line.
The credit line in a Home Equity Conversion Mortgage (HECM) grows larger each month by the same rate as the one being charged on the loan balance. It continues to grow as long as there is credit left. If the borrower uses a reverse mortgage to buy an annuity, the total amount of cash received will depend on how long they live and where ever they live.
Rising Debt - Falling Equity
As the borrower continues to receive cash advances, makes zero repayments and interest is added to the original loan balance, the debt keeps on getting larger. Subsequently, as the amount owed increases, equity (home’s value less debt against it) decreases - Thus the term “Falling Equity.”
There can be exceptions to the rising debt - falling equity syndrome with reverse mortgages. If a home’s value grows markedly, equity could actually increase over time. For example, if a borrower took only one cash advance with no interest charged on it, the debt would remain the same but the equity would grow with increases in the home’s value. Because the majority of home values don’t grow at consistently high rates and interest is charged, the majority of reverse mortgage borrowers become members of the rising debt - falling equity club.
Reverse Mortgages vs Forward Mortgages
In forward mortgages, debt is used to turn income into equity. In reverse mortgages, debt is used to turn equity into income. It’s a reverse of the deal originally used to buy a home. Before, the borrower had income and wanted equity - Now, the borrower has equity and wants income.
With a forward mortgage, regular monthly payments decrease the loan balance (amount owed on the home) over time, until it’s paid off. The homeowner pays the lender a monthly check, which is used to cover the current interest and anything above interest is applied to the principal.
With a reverse mortgage, you have a loan balance, an interest rate and a monthly payment like a forward loan. The payment for the reverse mortgage is the current interest due, which is based on the current balance. But instead of it being paid by the home owner each month, the payment gets tacked onto the current balance. Reverse mortgage borrowers are homeowners and are still responsible for paying the homeowners insurance, taxes and maintaining their property.
Paying The Loan Back
A reverse mortgage loan is paid back when the last surviving borrower dies or sells the home. It also comes due if the last surviving borrower does not live in the home for twelve consecutive months - which is considered a permanent move. If the homeowners insurance and taxes are not paid or if the property is allowed to get run-down, this may also create an event where the loan becomes due. However, the lender is usually able to make cash advances to cover the cost of these expenses when necessary.
Total Amount Owed
When the loan becomes due, the total amount of the loan balance owed will include all cash advances received (including fees) including the interest on the advances, up to the loan’s recourse limit. Most reverse mortgages are non-recourse loans. The lender has no recourse to anything other than the home. The borrower would never owe more than the value of the home at the time the loan is repaid. The borrower’s income or assets and that of the borrowers heirs can not be touched. Even if the total amount of cash advances over time becomes greater than the home’s value, the borrower will never owe more than the value of the home.
At the end of the loan, if the balance is less than the value of the home, the borrower or heirs can keep the difference. If the reverse mortgage was taken as a credit-line account, it’s a good idea to withdraw all the remaining available credit before the loan ends. In some instances, a growing credit line could become greater than the equity leftover.
Out-of-Pocket Costs
The out-of-pocket costs usually consists of an application fee that covers the cost of a credit check (see if the borrower is delinquent on any federally-insured loans) and an appraisal fee (see how much the home is worth). Other possible costs can be financed with the loan. The borrower can use a reverse mortgage cash advance to pay closing costs, which are added to the loan balance - with interest.
Other Costs
The total loan costs between one program and another can vary quite a bit. However, most of the individual cost items, within each program, don’t vary much from one lender to another. For example, within the Home Equity Conversion Mortgage (HECM) - FHA insured mortgage program, the cost difference between lenders is usually the origination fee and the servicing fee. The borrower would want to compare these fees in order to find the best deal. In comparing different programs is where the borrower find cost variations, for example, be between the HECM and the Home Keeper (Fannie Mae) Program. Evaluating the total cost of a reverse mortgage is not possible without taking into consideration the “Annual Loan Cost (TALC).”
For more information on HECM and Home Keeper reverse mortgage programs, visit the following websites:
Federal Truth-in-Lending Law
According to the Federal Truth in Lending Act, lenders are required to disclose the terms and conditions of a loan before the borrower signs anything. With credit lines, the lender must inform the borrower about appraisal or credit report charges, attorney’s fees, or other costs associated with opening and using the account.
Reverse mortgage lenders are required by law to disclose a projected annual cost of these loans. The Total Annual Loan Cost (TALC) includes all benefits and costs - taking into account the non-recourse guidelines of reverse mortgages. The TALC disclosure reveals the all inclusive interest rate if the lender could only charge interest without charging other fees. This is the average annual rate that would be used only for the cash advances the borrower would get that are not used to pay any loan costs. It would be the amount paid by the borrower for the money he/she received to spend.
A borrower generally has at least three business days after signing loan documents to cancel for any reason without penalty. However, the cancellation must be in writing. If this happens, the lender is required by law to return any money the borrower has paid for the financing. Borrowers should look at all their options before deciding on the best loan type their financial situation.
For more information on mortgages, visit the “professionals” at New Homes Central Lending.
[tag]reverse mortgages, reverse loan, home equity conversion mortgage, buying new home home, new home purchase, home loan, mortgage[/tag]
If you're new here, you may want to subscribe to our RSS feed.
If you would like to receive email updates to our blog, you may Subscribe to New Homes Real Estate Blog by Email
Thanks for visiting!
