Many financial planners say that retiring debt-free is a smart move. It makes sense to reduce (or eliminate) as much outstanding debt as possible before adjusting to living on a fixed income.
But many people these days are retiring while still paying a mortgage. According to one survey, 44 percent of Americans between ages 60 and 70 retire with a mortgage.
If you’re approaching retirement age and still owe money on your home, you may be wondering if a reverse mortgage is right for you. Let’s take a look at the basics of these products and review their pros and cons.
What are reverse mortgages?
Reverse mortgages are products available to people age 62 or older that enable homeowners to convert a portion of the equity built up in their home into cash. Often, retirees turn to reverse mortgages to pay medical bills or to supplement their retirement income.
How do reverse mortgages work?
Unlike a conventional mortgage, where the borrower makes monthly payments to the lender, a reverse mortgage takes some of the equity in the home and turns it into payments to the borrower.
Contrary to popular belief, the homeowner gets to retain the home’s title.
The payments received are not usually taxable and shouldn’t affect Social Security or Medicare benefits.
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There are three types of reverse mortgages:
- Single-purpose reverse mortgages. Backed by some state or local governments or certain non-profit agencies, single-purposes reverse mortgages are intended (and must be approved) for a specific purpose, such as paying for home repairs or property taxes. As such, they are usually taken in smaller amounts, which makes them the least expensive type of reverse mortgage.
- Proprietary reverse mortgages. Also called jumbo reverse mortgages, proprietary reverse mortgages are backed by private lenders or banks. These products are meant for homeowners with highly-valued homes and are not insured by the FHA. Interest rates on these are higher; although fees may be lower than other types of reverse mortgages.
- Federally-insured reverse mortgages. Also known as home equity conversion mortgages (HECMs), federally-insured reverse mortgages are the most popular variant. They are backed by the Department of Housing and Urban Development or the Federal Housing Authority (FHA). The borrowing limit is based on the borrower’s age and the home’s value. These mortgages may be either fixed-rate or adjustable-rate.
So what’s the catch?
There are quite a few rules, downsides, and risks to reverse mortgages. Here are some important things to know or consider before you apply for one:
- You must remain in your home.
- You must have enough equity in your home to pay off any current mortgages.
- All homeowners listed on the loan paperwork must be at least 62 years old.
- Your home must be approved by the FHA. As a result, Typically only single-family homes qualify for reverse mortgages.
- The fees associated with reverse mortgages tend to be much higher than those of conventional mortgages—sometimes tens of thousands of dollars. These fees are typically rolled into the loan.
- If you want your heirs to inherit your home, a reverse mortgage usually decreases the amount of equity in it, leaving less money for them after your death.
- If you live with someone and they aren’t on the loan paperwork, they could be evicted if you die. Eviction is also possible under other circumstances, too, such as if you move out of the home for more than one year.
- If you plan on selling the house or moving out, you have six months to repay the loan. This includes moving into an assisted-living facility or nursing home if you aren’t in good health.
Though reverse mortgages can be difficult to understand and risky, they can be beneficial under the right circumstances if used correctly and can help retirees stay in their homes longer.
But because a reverse mortgage can put your home at risk, it is important to speak with a financial advisor to make sure one is right for you. Request a complimentary, no-obligation conversation about your retirement plan with one of our advisors today to get started.