Peter G. Miller – Bankrate – Wednesday, August 19, 2020
Reverse mortgages have become more attractive as a result of low mortgage rates, which have given homeowners the ability to access more of their home’s equity, even if its value hasn’t considerably gone up. In a reverse mortgage, this ultimately makes more money available to the homeowner, who could use the funds in retirement for healthcare, home repairs and more.
The big question for millions of seniors is: Is it worth using this tappable equity, or do the risks outweigh the benefits? Here we’ll examine the pros and cons.
What is a reverse mortgage?
A reverse mortgage is a form of cash-out refinancing that allows property owners 62 and older to convert real estate equity into spendable cash.
Virtually all reverse mortgages are insured through the Federal Housing Administration, (FHA), which means if the debt is not repaid by the borrower, it will be repaid with FHA reserves. The government calls reverse mortgages “HECMs,” short for Home Equity Conversion Mortgages, and borrowers must pay insurance premiums to participate. These premiums are used to fund the FHA’s reserves.
How do reverse mortgages work?
Reverse mortgages are very different from traditional mortgages. With a traditional mortgage, if you borrow $100,000 at 3.4 percent fixed-rate interest for 30 years, you’ll have a $443.48 monthly payment (principal and interest).
However, if you borrow $100,000 with a reverse mortgage, your required monthly payments for principal and interest are zero.
How is this possible?
With our model $100,000 mortgage, the borrower pays $443.48 each month. Of this amount, $160.15 is paid toward principal in the first month to reduce the loan balance. The rest of the payment – $283.33 – is interest, or what the lender charges you for loaning you money.
Reverse mortgage cons
Why reverse mortgages may be more useful today
Two market trends may cause seniors to re-examine their reverse mortgage options.
First, in the past decade, home equity has grown enormously as home values have risen. Equity is generally defined as the value of a home less outstanding mortgage balances. While not all homeowners have benefited from rising values, millions have:
Second, mortgage rates have fallen through the floor. According to Bankrate, the national average rate for fixed-rate 30-year financing was 3.24 percent as of August 13.
How reverse mortgage requirements have changed over the years
HUD HECM standards have changed during the past few years. The reason? Massive program losses in the billions of dollars.
As a result of these changes, the number of reverse mortgages insured by the FHA fell from 60,091 in fiscal year 2013 to 31,274 in fiscal year 2019.
HUD has also substantially reduced reserve mortgage losses. In fiscal year 2018, the HECM reserve was down $13.63 billion. By fiscal year 2019, the potential loss had been reduced to $5.92 billion.
It is very possible that reserve losses might actually be wiped out in fiscal year 2020 if claims continue to fall and home prices remain at least stable.
Should you get a reverse mortgage?
Reverse mortgages are complex – they work for some homeowners but not for all. You need to consider your finances and preferences, as well as your estate plans and tax implications, to see if a HECM is right for you.
If you want to learn more, it’s best to shop around and speak with multiple lenders. Consider consulting with a professional for your estate and tax needs, as well.