A reverse mortgage can be a powerful retirement planning tool, but they are not for everyone. If you learned about reverse mortgages in the past and decided against them, you should know that there have been some reforms in the past few years that make the upsides stronger. Here’s a look at why you might or might not want to get a reverse mortgage.
Reverse Mortgages Explained
A reverse mortgage is a tool that allows seniors to take a loan against the value of their home while continuing to live in and own the home. The loan amount borrowed does not have to be repaid until the homeowner leaves the home. At that time, the home can be sold to cover the debt—or the heirs can pay it off and keep the home.
Why You Might Get a Reverse Mortgage
Should I get a reverse mortgage? Well, having an alternate source of cash flow in retirement can make a huge difference. Having a cash flow source that is unaffected by market conditions is proving helpful during the current economic conditions. The funds also help many who need additional cash flow beyond their portfolios and social security.
A reverse mortgage can be income tax-free, which is another plus. The most significant benefit for some is that a reverse mortgage provides a funding solution that doesn’t require retirees to sell or downsize their homes. Borrowers can receive funds from a reverse mortgage in one of the following payment methods:
- Lump-sum payment: a single disbursement of funds
- Term payments: funds are spread out over a set period
- Tenure payments: funds spread out as long as you live in the home
- Line of credit: draw on the loan amount as you desire
- Combination: payments of either type plus a line of credit
Considerations to Make With a Reverse Mortgage
Like all financial planning solutions, reverse mortgages are not a perfect fit for everyone’s situation. Here are some issues to consider:
- Not everyone will qualify for a reverse mortgage. Many people do, though — especially if they’re 62 or older and own their homes entirely or owe very little on them.
- The amount you can borrow depends on several factors, such as the age of the borrowers, the value of the home, the equity in the home, and prevailing interest rates.
- Borrowers are still responsible for expenses such as property taxes, home insurance, home repairs, and maintenance.
- If the borrower fails to pay taxes, insurance, or maintain upkeep, the reverse mortgage can be foreclosed. However, if the financial assessment determines risk and if there is concern that the borrower could fall behind on these expenses, a Life Expectancy Set Aside (LESA) is required.
New and Improved Reverse Mortgages
Today’s reverse mortgages are better options for retirees than in the past due to several improvements. Before the updates, borrowers were allowed to take out 100% of the available proceeds in a lump sum at the beginning of the loan. Unlimited withdrawal permitted some to spend too much too soon, which put them in worse financial shape. Now, most people are limited to taking out no more than 60% in the first year, helping people stay on a working financial plan.
Reverse mortgages now require applicants to go through mandatory HUD counseling as well. This process removes uncertainties about the financing tool and the process by informing retirees and their family members to make informed decisions.
As mentioned above, borrowers must complete a financial assessment to get a reverse. If the lender finds that an applicant does not have the adequate cash flow to uphold the mandatory obligations of the reverse mortgage, they may require what is known as a LESA. Think of the LESA as a pool of funds derived from the reverse mortgage loan proceeds that will be used to pay for property charges and homeowner’s insurance for the borrower’s expected remaining lifetime.
Even if a LESA is not required, the borrower may choose a LESA to help pay for ongoing property charges and have the lender set aside funds for the payment of property taxes and insurance. By setting up the LESA, the amount needed to satisfy these costs will be set aside from the available reverse mortgage loan proceeds.
Spousal protections are stronger now as well. In the past, there were concerns that non-borrowing spouses didn’t get adequate consideration when the borrowing spouse passed away. Fortunately, the Department of Housing and Urban Development (HUD) released updated guidelines in 2014 to ensure non-borrowing spouses are protected. Non-borrowing spouses can now stay in their homes, regardless of the balance owed, but specific qualifications must be met.
This article is intended for general informational and educational purposes only, and should not be construed as financial or tax advice. For more information about whether a reverse mortgage may be right for you, you should consult an independent financial advisor. For tax advice, please consult a tax professional.