Reverse mortgages are not a one-size-fits-all kind of loan because there are many different types one can consider. Different types of reverse mortgages exist for seniors age 62 and older. But it all depends on their needs and qualifications.
This blog post aims to shine a light on the different types of reverse mortgages.
Read on to find out whether you need a single-purpose reverse mortgage, a Home Equity Conversion Mortgage, or a proprietary reverse mortgage.
Reverse Mortgages – What are They?
Everyone knows paying down a mortgage can span many years. Then, after doing this, much of your net worth becomes tied up in the value of that home.
That should be a good thing, right? Well, it is a tricky financial situation for many, especially the elderly who find themselves rich in home equity yet suffocated by bills.
They search for a way to access this wealth without having to leave their cherished homes.
That is where reverse mortgages come in. This ‘financial innovation’ lets homeowners age 62 or older convert part of their home equity into tax-free income.
The mechanics of a reverse mortgage flips the traditional mortgage process on its head.
This is possible without having to sell the home, give up the title, or take on a new monthly mortgage payment.
Here’s how it works
Imagine you own a house that you’ve been paying a mortgage on for years. Over time, the value of your home has gone up, and you’ve built up equity.
Equity is the difference between what your home is worth and any debts against it (like a mortgage). When you’re older, you might want to get some cash to help pay for things like living expenses, medical bills, or home improvements.
To be eligible, you must:
- Be at least 62 years old
- own your home outright
- have a considerable amount of equity in it, and the home must be your primary residence.
The lender looks at your age, the value of your home, and current interest rates to determine how much money you can get.
Receiving Funds: You can choose how to receive your funds. It could be a lump sum, monthly payments, a line of credit, or a combination of these options.
No Monthly Mortgage Payments: Unlike a traditional mortgage, you don’t have to make monthly payments. However, you are still responsible for property taxes, insurance, and maintaining the home.
Repayment: The loan becomes due when the borrower dies, sells the home, or permanently moves out. At that point, the home can be sold to repay the loan, or the heirs can repay the loan or refinance it to keep the house.
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Advantages and Considerations
It provides a way to access the equity in your home while you continue to live in your home.
Considerations: The loan balance increases over time as interest on the loan and fees accumulate. This means the equity in your home may decrease over the life of the loan. This affects the inheritance you leave to your heirs. It’s also important to consider the upfront costs, which can be significant.
Different Types of Reverse Mortgages:
Home Equity Conversion Mortgage (HECM):
Simply put, a HECM is a special kind of loan that lets ‘senior homeowners’ turn some of that ownership into money without selling the house.
This type of reverse mortgage stands out as the flagship reverse mortgage product. It is backed by the Federal Housing Administration (FHA) and offers unparalleled flexibility in payment options.
How does it work?
Instead of paying the bank each month like a regular mortgage, the bank pays you. You get to keep your house as long as you want. You don’t have to move out or sell it. The bank only gets its money back when you decide to sell the house, move somewhere else, or in the event of death.
HECM comes with more costs including up-front costs but they are more flexible. It is also the more widely used option. If you are much older with higher equity, you can access more funds.
If you are interested in HECM, you will be counseled on the terms, conditions, and options. This counseling comes with a cost which you pay from the loan proceeds.
Once this reverse mortgage is established, you have some flexibility. You can choose among several payment options:
- A term option that allots monthly cash advances for a specific period.
- A tenure option that pays monthly advances for as long as the home is your primary residence.
- A credit line that allows you to draw from the account at any time.
You can also combine a credit line option with say, monthly payments. With a low fee, you can switch your options if the need arises.
Single-Purpose Reverse Mortgage:
This type of reverse mortgage is for specific financial needs. The government and nonprofit organizations offer it. It is for homeowners with particular objectives, such as home improvement or property tax.
Here’s the catch – the money you get from this mortgage is earmarked for something specific. It’s not a general-purpose fund and you can only use it for lender-approved items.
In other words, if you need flexibility with your funds, a single-purpose reverse mortgage might not be the best fit. However, they demand the least interest, and costs and are also less common.
While home equity loans require monthly installment payments, this one doesn’t have to be repaid until the home’s ownership changes. Other reasons for repayment are movement to a different primary residence, or the borrower passing away. These loans also become due if you stop maintaining homeowners insurance on the property or if the city condemns the property.
Proprietary Reverse Mortgage
For homeowners with higher property values, proprietary reverse mortgages offer an attractive option. These private lender solutions are not government-insured but can provide access to larger amounts of equity.
So, if a borrower has a more valuable home, a proprietary reverse mortgage provides access to a more significant chunk of your home’s worth.
Unlike government-backed options, the terms and rules for a proprietary reverse mortgage depend on the private lender.
With a proprietary reverse mortgage, the borrower also has payment options – a lump sum, regular payments, or a line of credit.
Home Equity Conversion Mortgage for Sale
A Home Equity Conversion Mortgage (HECM) for sale is a specific type of reverse mortgage that allows seniors to purchase a new primary residence.
This process is part of the reverse mortgage program managed by the U.S. Department of Housing and Urban Development (HUD).
Unlike the standard HECM, which is used by homeowners to tap into the equity of their current home, the HECM for sale is used to buy a new home.
How Does It Work?
Eligibility: Similar to a traditional reverse mortgage, to be eligible for a HECM for sale, you must be 62 years or older. The home you’re purchasing must be your primary residence.
Purchasing Process: Instead of converting equity into cash as in a standard reverse mortgage, with a HECM for sale, you use the loan proceeds to purchase a new home outright.
Step-by-step Process
Find a Home: You decide on a home to purchase, which must meet FHA standards and pass an FHA appraisal.
Down Payment: You provide a down payment from your funds. This can come from the sale of your previous home, savings, or other sources.
The down payment amount varies depending on your age, the home’s price, and current interest rates.
HECM for Sale Loan: The rest of the home’s purchase price is covered by the HECM for sale loan. Like with a traditional reverse mortgage, you do not make monthly mortgage payments. Instead, the loan balance, including interest and fees, accumulates over time.
Moving In: You move into your new home, making it your primary residence.
Ongoing Responsibilities: While you don’t have to make monthly mortgage payments, you are still responsible for maintaining the home, paying property taxes, homeowners insurance, and any homeowners association (HOA) fees.
Repayment: The loan becomes due and payable when the borrower sells the home, moves out, or passes away. You can sell the home home to repay the mortgage balance.
If the sale proceeds exceed the mortgage balance, the surplus goes to the borrower or their estate. If the proceeds are insufficient to cover the balance, FHA insurance covers the difference, so there’s no debt passed on to heirs.
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This is for you if:
Downsizing or Upsizing: This option is particularly appealing for seniors looking to downsize to a more manageable home. Or, relocate closer to family without tying up a significant portion of their retirement savings in a new home purchase.
It reduces the financial burden by eliminating monthly mortgage payments. You must still keep up with other financial obligations related to the home.
Considerations
Initial Costs: Closing costs and fees can be significant, which might impact the overall benefit of using this option.
Equity Impact: Since you’re not making monthly payments, the loan balance increases over time, which can eat into the home’s equity.
Conclusion
Choosing the right reverse mortgage is a question of your needs, financial goals, and circumstances.
If you need a specific amount for a specific repair or a tax bill, then a single-purpose reverse might be the best fit. It is also the cheapest option if you can find one.
If you have a high-value property and need more than the lending limit for an HECM, then your only option is a proprietary reverse mortgage.
You don’t meet either of those criteria? Then a standard HECM is your best option. This advice underscores the importance of consultation and strategic planning in identifying the most suitable reverse mortgage type.
So, assess the obligations that come with the different types of reverse mortgages before you choose one.
