How do banks make money on reverse mortgages? What’s in it for the lender? These are great questions that are commonly asked by seniors exploring a reverse mortgage.
Many retirees exploring a reverse mortgage are curious to know what’s in it for the bank. In fact, they often ask how do reverse mortgage companies make money after saying something like the reverse mortgage sounds too good to be true!
Yes, a reverse mortgage can sound too good to be true, but it’s 100% legitimate.
Before we explain how lenders make money on reverse mortgages, let’s first cover some basics about how a reverse mortgage works. Confusion about how reverse mortgage lenders make money is often rooted in misconceptions about how reverse mortgages work.
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First, A Few Basics
First of all, a reverse mortgage is simply a home loan. The most common reverse mortgage in the United States today is the HECM (often pronounced heck-um by industry professionals), which stands for home equity conversion mortgage. If somebody you know recently got a reverse mortgage, it’s likely they got a HECM.
The HECM was signed into law by President Reagan as part of the Housing and Community Development Act of 1987. Today, it’s overseen and regulated by the Federal Housing Administration (FHA) under the authority of the Department of Housing and Urban Development (HUD).
Proprietary reverse mortgages are also available for applicants with high home values, but they’re beyond the scope of what we’ll cover here.
If you’re at least 62, the HECM enables you to convert a portion of your home’s value into cash. No mortgage payments are required as long as at least one borrower (or non-borrowing spouse) lives in and maintains the home and pays the property taxes, homeowner’s insurance, and HOA dues (if applicable).
You remain the owner of your home and you’re free to leave it to your heirs. If your heirs wish to keep the home, they will need to pay off or refinance the loan balance. If they don’t want the home, they can sell it. Once the home sells, escrow pays off the reverse mortgage and the remaining equity goes to your heirs.
The HECM is a non-recourse loan, which means FHA will cover the shortage if your home isn’t worth enough to settle the entire loan balance.
The HECM is versatile and customizable. Lenders can structure it to meet your financial goals and needs. You can take the proceeds in the form of a line of credit, lump sum, monthly income, or some combination of all of these options.
Many seniors use the proceeds to get rid of mortgage or other debt payments, supplement income, finance home improvements, or add to existing liquid retirement assets. You can use the proceeds for anything you like.
How Much Money Do You Get From a Reverse Mortgage?
How much you qualify for depends on a few different factors, including age, home value, and the current interest rate environment. There’s no set amount that applies to every applicant.
Older applicants tend to qualify for more than younger applicants. The reverse mortgage also tends to offer more when interest rates are lower versus when interest rates are higher.
If you’d like to estimate how much you can get, check out our reverse mortgage calculator.
A Reverse Mortgage Is Fundamentally a Home Loan
So, how do reverse mortgage companies make money when no payments are required? Great question!
The HECM reverse mortgage is fundamentally a home loan, which means interest accrues on the borrowed money just like any other home loan. Again, no mortgage payments are required, so the unpaid interest simply accrues onto the loan balance over time.
Big banks offer reverse mortgages because they can profit from the interest – just like any other home loan product.
HECM interest rates are usually comparable to traditional 30-year mortgage rates.
How Do Banks Make Money on Reverse Mortgages?
So, how do banks make money on reverse mortgages? Depending on how the lender operates, there are three potential ways they can make money:
- Interest – A reverse mortgage is a home loan, so lenders make money on the interest that accrues on the loan balance.
- Origination fees – Depending on market conditions and loan amount, the lender may charge an origination fee to do the loan. The amount is usually a percentage of the loan amount or home value and cannot exceed $6,000. You typically don’t have to pay origination fees out of pocket; the lender just includes in the new loan. The exception is HECM for purchase; homebuyers always have to pay the closing costs out of pocket along with the down payment.
- Secondary market – Many lenders sell their loans to secondary market investors who pay a monetary premium for the loans. This allows lenders to quickly recoup capital that they can use to make new loans. This model also works well for investors because they don’t have to go through the trouble of writing the loans, they can just put up the capital to finance them. This model is very common in the mortgage industry for both reverse mortgages and traditional “forward” mortgages and helps keep interest rates low.
Keep in mind that lenders operate in multiple ways, so not all of these will be applicable to every lender.
The Bottom Line
So, how do banks make money on reverse mortgages? Basically, it comes from three places: interest, origination fees, and secondary market premiums.
How does the bank get paid on a reverse mortgage?
So, how do reverse mortgage companies make money? Reverse mortgage lenders can potentially profit in three different ways: interest, origination fees, and secondary market premiums.
Who owns the house in a reverse mortgage?
You always remain the owner of your home when you have a HECM reverse mortgage.