October 2008
Reverse mortgages can be a costly way to tap home equity
Illustration by Robert Neubecker
Reverse mortgages, which convert a home's equity to ready cash, can help older homeowners who have few or no other assets
or major sources of income. But some lenders imply those loans can enhance a lifestyle, not just be a lifeline.
In an ad for Senior Lending Network, actor Robert Wagner pitches reverse mortgages as he stands next to a collectible car. On the Golden Gateway Financial Web site, Grace, a borrower, asks, "Why not have my cake and eat it too?"
But relying on a reverse mortgage too much or too early in life—say, in your 60s—can create future trouble. If home prices continue to fall, borrowers could face shortfalls later.
"It can be a godsend to those without other assets or equity and basic needs to address," says Don Redfoot, author of a recent study on reverse mortgages published by the AARP's Public Policy Institute. But for younger borrowers, he notes, "meeting their needs in the future could become dicey." His study found just 58 percent of reverse-mortgage borrowers said their loans completely met their needs.
How reverse mortgages work
If you're at least 62 and have significant equity in your primary residence, you're eligible for a reverse mortgage. You can take a lump sum, a line of credit, a fixed monthly payment, or a combination. The mortgage amount is based on your age and your home's location and value. The older you are, the more you can borrow.
Reverse mortgages backed by the federal government, which account for at least 90 percent of the market, are called Home Equity Conversion Mortgages. Private lenders market HECMs; two lenders sell their own products. The recently enacted Housing and Economic Recovery Act raised the maximum for those loans to $417,000 for a single-family home in most areas, and perhaps more in higher-cost communities. The change is due by the end of the year.
Unlike traditional loans, reverse mortgages don’t have minimum-income requirements. Borrowers don't have to worry about built-up interest that exceeds the property's value. You keep the title to your home, and you or your estate will pay off the loan when you move, sell, or die.
Fees are often steep
Though the new housing law limits some fees, closing costs can still add up. Up-front fees and required insurance premiums cost about 5 percent of the value of the home, not of the mortgage. A 74-year-old borrowing $90,000 on a $300,000 home would pay about $14,000 in fees. The lender charges an additional 0.5 percent of the home's value in mortgage insurance plus service fees. Interest on the loan mounts quickly, too. At a monthly adjustable rate of 6 percent, that $90,000 balance would grow in a dozen years to about $238,000. If the owner needed to move—say, to a more accessible residence—the remaining equity might not cover the owner's needs.
Reverse mortgages also require that you maintain the home and pay property taxes. And if those expenses exceed what you've borrowed, you might have to move. Call that a reversal of fortune.
In an ad for Senior Lending Network, actor Robert Wagner pitches reverse mortgages as he stands next to a collectible car. On the Golden Gateway Financial Web site, Grace, a borrower, asks, "Why not have my cake and eat it too?"
But relying on a reverse mortgage too much or too early in life—say, in your 60s—can create future trouble. If home prices continue to fall, borrowers could face shortfalls later.
"It can be a godsend to those without other assets or equity and basic needs to address," says Don Redfoot, author of a recent study on reverse mortgages published by the AARP's Public Policy Institute. But for younger borrowers, he notes, "meeting their needs in the future could become dicey." His study found just 58 percent of reverse-mortgage borrowers said their loans completely met their needs.
How reverse mortgages work
If you're at least 62 and have significant equity in your primary residence, you're eligible for a reverse mortgage. You can take a lump sum, a line of credit, a fixed monthly payment, or a combination. The mortgage amount is based on your age and your home's location and value. The older you are, the more you can borrow.
Reverse mortgages backed by the federal government, which account for at least 90 percent of the market, are called Home Equity Conversion Mortgages. Private lenders market HECMs; two lenders sell their own products. The recently enacted Housing and Economic Recovery Act raised the maximum for those loans to $417,000 for a single-family home in most areas, and perhaps more in higher-cost communities. The change is due by the end of the year.
Unlike traditional loans, reverse mortgages don’t have minimum-income requirements. Borrowers don't have to worry about built-up interest that exceeds the property's value. You keep the title to your home, and you or your estate will pay off the loan when you move, sell, or die.
Fees are often steep
Though the new housing law limits some fees, closing costs can still add up. Up-front fees and required insurance premiums cost about 5 percent of the value of the home, not of the mortgage. A 74-year-old borrowing $90,000 on a $300,000 home would pay about $14,000 in fees. The lender charges an additional 0.5 percent of the home's value in mortgage insurance plus service fees. Interest on the loan mounts quickly, too. At a monthly adjustable rate of 6 percent, that $90,000 balance would grow in a dozen years to about $238,000. If the owner needed to move—say, to a more accessible residence—the remaining equity might not cover the owner's needs.
Reverse mortgages also require that you maintain the home and pay property taxes. And if those expenses exceed what you've borrowed, you might have to move. Call that a reversal of fortune.
Posted: September 2008 — Consumer Reports Magazine issue: October 2008
