To Borrow or Not to Borrow: The Pros and Cons of Reverse Mortgages

We have all seen or heard advertisements promoting reverse mortgages as the next best thing for seniors, with promises of risk-free liquidity. I tend to be skeptical of such claims, but the truth is that a reverse mortgage may be a good option in the right circumstances. Like everything else, the decision whether or not to enter into a reverse mortgage needs to be a fully informed decision, made after getting all of the facts and understanding the advantages and disadvantages.

How does a reverse mortgage work? In order to qualify for a reverse mortgage, the borrower must be at least 62 years old, use the home as his/her personal residence, and have equity in the home. The borrower takes a loan against the equity in the home, and is under no obligation to make payments against the loan during his/her lifetime. The loan may be taken in a lump sum, or in fixed payments over a period of time. As payments are received, the owner’s equity in the home decreases.

Bad new first- The cons:

• They are expensive. As with conventional mortgages, reverse mortgage lenders make money through interest, origination fees and points. Interest rates vary according to the market, but closing costs are significantly higher with reverse mortgages than conventional mortgages, and the homeowner must also pay for mortgage insurance.
• The reverse mortgage will be due if the borrower moves out of the home. In the event the borrower can no longer live in the home, it will either need to be sold or the reverse mortgage will have to be refinanced. This is why it is generally not a good idea to take the loan out in the name of one spouse even if the terms of the loan may be more favorable than it would be if both spouses are borrowers.
• The borrower’s estate is diminished. Depending upon the real estate market and the
  length of time the reverse mortgage is in place, the home may have very little to no equity on the death of the borrower. It is important that the buyer (and his/her heirs) are aware of this risk.

The good news- The Pros:

• Use the proceeds to pay off an existing mortgage and have no payments. The reverse
  mortgage can be taken in a lump sum to pay of an existing loan and, so long as the senior
  continues to reside in the home and continues to pay the property taxes and insurance, he/she will have no monthly loan payments.
• The proceeds of the loan are tax free.
• Flexibility for spending the proceeds. The proceeds of the loan may be used however
  the borrower sees fit. I would not suggest using a reverse mortgage to pay for extravagant
  vacations or to assist a grandchild with college expenses. However, it may be appropriate for financing necessary repairs on the home, supplementing monthly income or paying for medical care or assistance in the home. A reverse mortgage may also be useful to pay off an existing mortgage in order to reduce monthly expenses so that a widow may continue to live in the home if his/her monthly in substantially reduced upon the death of his/her spouse.
• No liability beyond the value of the home. A reverse mortgage cannot get “upside
  down” so the heirs will not be liable for more than the home is sold for, even if the sales price is lower than the outstanding balance on the loan.

Do your homework! If you are considering a reverse mortgage, get the facts and consult with your professional advisors before signing the papers so that you don’t end up with unpleasant surprises after it’s done.

Tamara M. Polley, J.D., L.L.M.

Estate Planning Attorney

242 S. Washington Street

(209) 694-3622