Reverse Mortgages Explained

A reverse mortgage offers homeowners aged 62 and older a way to borrow against the value of their home—turning their home equity into income.

Reverse mortgages can be a wise financial decision for some homeowners, but not everyone can benefit from the practice. Furthermore, reverse mortgages are subject to certain terms and conditions that make them undesirable for some people.

How does it work?

In order to qualify for a reverse mortgage, you must be 62 or older.

Many seniors have already paid off their mortgage, or have otherwise built up a sizable amount of net worth in the form of their home equity. These homeowners can stay in their home and access that wealth by taking out a reverse mortgage. The lender pay can pay them as a lump sum, fixed monthly payment or line of credit—without the homeowner making any monthly payments on the loan. Reverse mortgages are still subject to interest and fees.  

If the homeowner subsequently moves, sells the home or dies, the loan balance becomes payable to the lender, and is provided through the home’s sale. If the house is sold for less than the total amount owed, then the homeowner (or beneficiaries) would typically not be responsible for any costs. Those costs would be covered through mortgage insurance. If the home is sold for more than the loan amount, then the homeowner (or beneficiaries) would pocket the difference.

Types of reverse mortgage

The Home Equity Conversion Mortgage (HECM) is backed by the federal government and represents one popular type of reverse mortgage. There are also many proprietary reverse mortgages that are not backed by the federal government, but instead backed by private lenders.

Qualified homeowners can also take advantage of single-purpose reverse mortgages, which are backed by state and local governments as well as non-profit agencies. Single purpose reverse mortgages usually offer borrowers less interest and fees than an HECM, but they are not available in all locations.

Pros and cons

Reverse mortgages can be a great way for seniors to access tax-free cash, because they are not responsible for any monthly payments on the loan. This offers a vital supplemental or primary source of money in the absence of other income sources.  

However, the amount owed on the loan never decreases—so the lender will be repaid in full upon move or sale of the home, or death of the homeowner. Also, interest on a reverse mortgage still accrues monthly despite the lack of monthly payments.

Furthermore, qualified homeowners may not always be able to borrow the entire value of their home. The principal limit can vary depending on age (you can typically borrow more the older you are), interest rates and other factors.

How to get out of a reverse mortgage

In order to get out of the terms of a reverse mortgage, a homeowner can take one of five different actions:

• Exercise your right to rescission – This is a consumer protection that allows a borrower to cancel the loan for any reason, up to 3 business days after signing the agreement.
• Refinance – You can refinance into another reverse mortgage with better terms, or into a conventional loan.
• Pay off the reverse mortgage in full
• Sell the home
• Allow the lender to foreclose

There are specific terms and conditions depending on the type of reverse mortgage you have, and where you are. These conditions may vary, so make sure you consult a financial professional before seeking a reverse mortgage.