What Is A Reverse Mortgage Loan?

A loan that has been popping up more often these days is the Reverse Mortgage. This mortgage works differently then other types of mortgage loans in that it works in reverse in a way.  Let me tell you a little more about reverse mortgages…

In a conventional mortgage, the home buyer borrows money to purchase a house and place the property as a lien with the lender. A reverse mortgage appropriately reverses that process: the homeowner intends to sell the house eventually but receives a percentage of the expected proceeds from the lender now and pledges the property as a mortgage for paying back the borrowing when the loan is due.  In essence, a reverse mortgage is loaned to the homeowner against the available home equity in the property as the term “home equity conversion loan” is often used.  It is different from the traditional home equity loan where the homeowner does not plan to sell the house and monthly repayments of the loan start immediately after a loan is taken out.  A reverse mortgage requires no repayments during the loan term.

Features of Reverse Mortgage Loans

In the U.S., by law, a reverse mortgage can be the only mortgage on the property, meaning any other conventional mortgages must have been first paid off, even if some of the proceeds from the reverse mortgage loan are used.  Unlike a conventional mortgage where the total outstanding amount of the loan decreases over time as the borrower makes monthly payments, in a reverse mortgage, the loan amount increases every month as interest is accrued, compounded, and added to the original principal when no payments are made during the loan term.  The longer the loan lasts, the more likely the total amount accumulated may exceed the total available home equity when the loan becomes due.  But the borrower can never owe more than the value of the home because the lender and mortgage insurance, private or governmental, would have to absorb the difference.  There is no income and credit requirements in order to qualify for a reverse mortgage as the loan is secured by the home equity and can be paid back by selling the property.

Types of Reverse Mortgage Loans

Reverse mortgage loans can be taken out as a lump sum, withdrawn in the form of a line of credit, or paid out with fixed monthly amounts.  A lump-sum reverse mortgage with immediate total cash access incurs the most interest charges.  Using a line of credit accumulates less interest whenever the credit line is not being further drawn down.  Receiving monthly payments ensures a steady stream of income.  Interest rates on reverse mortgage loans are typically lower than other mortgages as the loans are guaranteed by the home equity in the property.

Purpose and Usage of Reverse Mortgage Loans

Reverse mortgage loans are primarily used by seniors, of 62 and older, as a source of income in the final stage of their lives.  The loan ends only when the owner dies or leaves for an aged-care facility.  Any loan advances from a reverse mortgage loan is not income taxable.  Money from a reverse mortgage loan can be used for any purpose and the senior cannot be asked to leave the property as long as the loan is still in good standing.  However, property tax delinquency and overdue homeowner insurance by the homeowner would constitute a loan default.  Seniors who have accumulated equity in their home during their income earning years and have no particular concern about leaving the house in their estate are most likely to use a reverse mortgage to fund their retirement living.

Estate of Reverse Mortgage Loans

Because the borrower never lost the title to the property during the long term, upon his or her passing, the heirs are still entitled to the property.  To pay off the reverse mortgage loan, which must been done within one year, the heirs can sell the property if they do not intend to reside in the house, and can keep any money left in the estate.  Or they can refinance to get out of the reverse mortgage and any difference goes to the homeowner’s estate as well.

A reverse mortgage loan is a specialized loan that that a senior has to understand completely before entering into it. Be aware of the initial costs of the loan and the fact that the longer the loan is being used, the more equity of the home may be taken up.  A reverse loan isn’t for everyone but for some it can be a useful source of funds in their later years.