The reverse mortgage is a hugely misunderstood mortgage product. Even financially savvy people like attorneys, CPAs, and financial advisors often have it wrong about reverse mortgages.
I’ve helped hundreds of seniors over the years get reverse mortgages and I think I’ve heard just about every myth and misconception there is. I’d like to address the most common ones in this article.
Note that the following refers to the home equity conversion mortgage, or HECM. The HECM is the official federally-insured reverse mortgage program regulated by the FHA.
The HECM is by far the most common reverse mortgage program in America today. However, there are other reverse mortgages out there and they could work differently than what I cover here.
If you’d like more detailed information about how a HECM reverse mortgage works, check out my article here.
Myth #1: “I’m giving up ownership of my home.”
This is probably one of the most common misconceptions floating around out there. A reverse mortgage is simply a home loan; you’re not selling your home to the bank. You always retain title ownership of the home, which is why you’re required to continue paying the property taxes and homeowners insurance.
Myth #2: “I’m selling my home to the bank for a discount”.
The HECM reverse mortgages offers a portion of your home’s value based on your age, prevailing interest rates, and the program you select (variable-rate HECM or fixed-rate HECM). Because it’s a portion of the value, many people have the idea that they’re selling their house to the bank for a discount. Again, a HECM is simply a home loan. You retain title ownership of the home. If you sold the home in the future, the reverse mortgage would be paid off through the proceeds of the sale and you would walk away with any remaining equity.
You’re not selling your home and you’re certainly not selling your home for a discount.
Myth#3: “The reverse mortgage is a last resort for broke and desperate people.”
Definitely not. Broke and desperate people usually don’t meet the credit and income requirements of a HECM reverse mortgage. This is not a loan that is handed out to anybody that asks for one. You have to qualify for it.
Believe it or not, many very wealthy seniors take advantage of the HECM for a variety of reasons. Some of the most common ones include supplementing income, increasing liquid assets, extending the life of other assets, minimizing income taxes, and gaining additional financial flexibility in retirement.
A reverse mortgage can be a great addition to an already solid financial plan for retirement.
Myth #4: “The reverse mortgage will use up all of my equity.”
Yes, the reverse mortgage can use up all of your equity, but it doesn’t mean it will. A reverse mortgage is designed to convert equity into cash, which means your loan balance rises over time. However, it’s also designed to preserve equity. It’s not a financially viable program if it uses up your equity quickly.
A HECM reverse mortgage is a non-recourse loan insured by FHA. This means the FHA insurance fund covers the shortage if there’s not enough value in your home to settle the entire loan balance at the time of repayment. For the program to be financially sustainable, it has to preserve equity as well.
Note that you decide how much of the proceeds is used. Use less and more of your equity is preserved for longer. Use more and you’ll use up your equity faster.
Myth #5: “I’m passing on a big debt to my heirs.”
Again, the reverse mortgage is a non-recourse loan insured by FHA, which means that a debt can never be passed on to your heirs. If there’s not enough value in the home to pay off the entire balance, your heirs are not responsible to cover the shortage. The most that has to be paid back is the value of the home at the time the loan is due and payable.
Myth #6: “Reverse mortgage interest rates are sky high.”
Not at all. In fact, HECM reverse mortgage rates are often very comparable to traditional 30-year fixed mortgage rates. This is possible because FHA insures the loan, which reduces risk for the lender.
Myth #7: “The fees are really expensive.”
This is true sometimes, but not all the time. If you live in a high value home and you’re paying off a large mortgage balance, it’s possible the fees could be pretty stiff because of the IMIP charged by FHA. However, lenders often have some leeway to chop or eliminate their origination fee and/or cover third party fees because of the larger loan amount.
On the other hand, if your home is less expensive and you have little to no mortgage balance to pay off, your closing costs could be very comparable to a traditional forward mortgage.
Myth #8: “The bank takes my house when I die.”
Definitely not. You are always the owner and you’re free to leave the home to whoever you wish. If your heirs wish to keep the home, they need to either pay off or refinance the reverse mortgage balance. If they don’t wish to keep the home, the bank will sell it and pay back the reverse mortgage balance. Any remaining equity goes into your estate and to your heirs.
Myth #9: “I can’t take any long trips or temporarily go into a nursing home or I might lose my house.”
Not at all. Yes, you need to live in the home, but it doesn’t mean you can’t take a long trip or stay in a nursing home for a few months. As long as you live in the home for the majority of the year and it remains your primary residence (not a second home or rental), you should be fine.
Myth #10: “I can’t ever sell my house. I’m locked in for the rest of my life.”
Not at all. I think the reverse mortgage is better suited for people who don’t plan to move anytime soon, but you’re free to move if you need to. You simply sell the home, pay off the balance with the proceeds of the sale, and keep any remaining equity.
Myth #11: “As long as I’m 62 and have equity in my home, I qualify for a HECM reverse mortgage.”
Unfortunately, it’s not quite that simple. There’s more to qualifying than just having equity in your home and being at least 62. Today, lenders have to evaluate your income and credit through a process called financial assessment. The home also needs to be in at least reasonably good condition. Not everybody who owns a home and is 62 or older can get a reverse mortgage.
Myth #12: “I don’t need it now. I can just wait and get a reverse mortgage when I really need it.”
Don’t count on it. It’s actually gotten tougher to get a reverse mortgage in recent years. FHA has tightened the qualifying standards to reduce defaults due to nonpayment of property charges (property taxes, homeowner’s insurance, HOA dues, etc.). Just because a reverse mortgage is available today doesn’t mean it will be tomorrow.
Even if lending standards don’t change at all, there are other factors that could make a reverse mortgage less workable or attractive in the future:
- Higher interest rates – A reverse mortgage offers more money when rates are lower. If rates rise in the future, you may not qualify for as much money as you can today. If you’re trying to pay off a large mortgage, higher rates could make it impossible to get enough to cover the entire balance.
- Lower property values – Many real estate markets across the country have seen big increases in home values over recent years. If you’re in one of those places, your market could be ripe for a correction. If home values fall, you’ll qualify for less. Again, if you’re trying to pay off a large mortgage, lower home values could make it impossible for the reverse mortgage to cover the entire balance.
- Deterioration in your credit or financial profile – FHA rolled out new financial assessment guidelines in 2014 that require lenders to take into account your income, expenses, and credit history. If you incur debt or big medical bills that wreck your credit, you may have difficulty qualifying.
- Deterioration in the condition of your home – We all know that homes take maintenance over time. If you’re tight financially and can’t keep up with the maintenance of your home, it may be tough to get a reverse mortgage in the future. Your home doesn’t need to be perfect, but it does need to be in at least reasonably decent shape to qualify.
The time to get insurance is not when your home is already burning down. If you qualify today and the reverse mortgage truly helps you, take advantage of it today – there’s no guarantee it will be available to you in the future
