Nobody likes nasty surprises when they’re already committed to something. Are there any lurking surprises that can force repayment of your reverse mortgage when it reaches a certain balance? Do you need to worry about your balance hitting a reverse mortgage limit?
I haven’t seen this question for a while, but it’s come up several times recently for some reason. Several readers have expressed concerns about their reverse mortgage balance reaching a limit that could force them to start making payments. I’d like to offer some important insights on this issue and hopefully put a few minds at ease.
Yes, there are some situations that could call your reverse mortgage due. We’ll cover a few things you should and shouldn’t be concerned with.
But before I dig into the reverse mortgage limit issue, let me first cover some basics. The reverse mortgage is highly misunderstood, which is a big reason for the rampant rumors circulating about it. If you’d like more detailed reverse mortgage information than what’s covered here, check out this article.
A few reverse mortgage basics
A reverse mortgage is a unique home loan that enables seniors 62 or older to convert home equity into cash. The most popular reverse mortgage in America today is the FHA-insured home equity conversion mortgage, or HECM (often pronounced heck-um by industry insiders). If you or somebody you know has a reverse mortgage, it’s likely they have a HECM.
You always remain the owner of your home and you’re free to leave it to your heirs. Your heirs will inherit any equity remaining in the home.
The HECM is a non-recourse loan, which means the most that will ever have to be repaid is the value of the home. FHA covers the shortage if your home isn’t worth enough to pay off the entire balance.
NOTE: the information covered here will be relevant to the HECM. Other proprietary reverse mortgage products could work differently.
Why there are rumors about a reverse mortgage limit
In my experience, the nervousness about a reverse mortgage limit stems from misunderstandings about 1) how the FHA lending limit works, 2) how the reverse mortgage lien is recorded on title, and 3) your ongoing HECM obligations.
If you happen to hear about a reverse mortgage limit of some kind, it’s probably in reference to either the FHA lending limit or how the reverse mortgage is recorded on title. I’ll explain more about both and show you why you don’t need to worry about them.
I also want to clear up any misunderstandings about your ongoing HECM obligations. Yes, there are situations that can make the HECM due and payable before the last borrower passes away, but they shouldn’t be a concern as long as you remain in good standing. Reiterating your basic ongoing obligations will help reinforce why you don’t need to worry about numbers 1 and 2 above.
How the FHA lending limit works
The FHA lending limit (also called the loan limit) is a major source of reverse mortgage limit rumors and fears. Many seniors are afraid that the lending limit caps how much they can borrow. What if the loan balance hits the lending limit? Do you have to start repaying the loan? Do you lose your house? Not at all! The lending limit is used solely to calculate initial proceeds. To see how this works, let’s cover how the calculations work.
The lender then selects the correct principal limit factor (PL factor) from the FHA principal limit factor tables based on the age of the youngest borrower (or non-borrowing spouse) and the current expected interest rate. The principal limit factor is multiplied by the maximum claim amount to determine the principal limit, which is the total pool of cash available.
That probably sounds a little complicated, so let’s look at an example. Let’s assume a home value of $400,000 and a principal limit factor of 0.50 based on age and the current expected interest rate. Because the home value is less than the lending limit, we calculate the principal limit based on the home value:
$400,000 (maximum claim amount/home value) * 0.50 (PL factor) = $200,000 (principal limit)
In this case, the principal limit is $200,000. This is the total pool of cash available from the HECM.
Now, let’s check out an example where the lending limit comes into play. Let’s assume a home value of $1,200,000 and the same principal limit factor of 0.50 that we used before. Because the home value is more than the FHA lending limit (which is $970,800 as of this writing), we calculate proceeds based on the lending limit:
$970,800 (maximum claim amount/lending limit) * 0.50 (PL factor) = $485,400 (principal limit)
As you can see, the lending limit effectively caps the home value for calculation purposes. Again, proceeds are calculated based on the home value or lending limit, whichever is less.
The term lending limit is somewhat of a misnomer because it implies a limit on future borrowing. Naturally, this leads to worries about hitting a loan balance cap and being forced to repay the loan. Folks, let me put your mind at ease: the lending limit is not a cap on your future loan balance. There’s no loan balance cap that will cause your loan to be called due. The lending limit is used solely to calculate the initial proceeds at the start of the loan.
How the reverse mortgage lien is recorded on title
Many reverse mortgage borrowers worry about a cap on their loan balance because of how the reverse mortgage lien is recorded against the title of your home. Remember, the reverse mortgage is a home loan, which means a lien is recorded against the title of your home. This is how it works for any home loan, whether it’s a reverse mortgage or a traditional 30-year fixed. This is how lenders secure the money they’ve lent out.
Traditional “forward” mortgage lenders record the starting loan amount on title. For example, if you take out a traditional 30-year fixed with Wells Fargo for $300,000, a lien for Wells Fargo in the amount of $300,000 is recorded against the title of your home.
The original loan amount recorded on title is not updated as the loan is paid down. Fifteen years down the road when you’ve paid off nearly half the balance, the lien on title will still reflect the original $300,000 you borrowed. If you want the current balance owed, you simply log into your mortgage account online or order a payoff. Again, the lien on title doesn’t necessarily reflect how much you actually owe on the mortgage.
Reverse mortgages are recorded on title a little differently than traditional mortgages. With a traditional “forward” mortgage, you borrow a set amount up front and pay it down over time. With a reverse mortgage, you borrower relatively little up front and more over time. The reverse mortgage balance grows as you extract more equity out of the home. This is why reverse mortgage lenders record a large dollar amount – typically 150% of the principal limit – for the lien on title.
For example, if the principal limit is $300,000, the lender will likely record a lien for $450,000 against the title of your home. This doesn’t mean you owe $450,000 at the time of recording. This also isn’t a cap on how much you can borrow over time. If your loan balance reaches the amount recorded on title, nothing happens. You’re not going to be asked to repay the loan simply because your loan balance reaches a certain number.
What? A second lien is recorded on title??
Many reverse mortgage borrowers are surprised to learn that not one, but two liens are recorded on title when they get a reverse mortgage. Yes, this is true! The first lien is recorded for 150% of the principal limit and a tiny second lien is recorded for the benefit of the Department of Housing and Urban Development, which oversees the HECM program.
The HUD lien is simply a backup in case HUD takes over the servicing of your reverse mortgage at some point. If your lender goes out of business or your loan balance exceeds the maximum claim amount, HUD may end up servicing your loan. The second lien makes it easier for HUD to get repaid when the loan balance becomes due and payable.
Your ongoing reverse mortgage obligations
Folks, if you’re worried about a reverse mortgage limit, just remember your basic obligations under the reverse mortgage program: live in the home, maintain it, and pay your required property charges. As long as you do these things, it’s highly unlikely you’re going to have any trouble with your HECM reverse mortgage. Again, there’s no cap on the loan balance that’s going to cause your loan to be called due and payable or force you to start making mortgage payments.
The most common situations that can trigger a maturity event and cause your loan to become due and payable are as follows:
- The last borrower or non-borrowing spouse passing away
- Permanently moving out of the home
- Adding or removing individuals from the title ownership of the home (be sure to check with your lender before making title changes)
- Failing to pay the required property charges
- Letting the home fall into extreme disrepair
- Failing to respond to occasional lender requests for information
As you can see, loan balance is not on this list.
Hopefully this puts your mind at ease
If you were at all concerned about a reverse mortgage limit that triggers repayment, hopefully this puts your mind at ease.
Again, there is no repayment required as long as you live in the home, maintain it, and pay the required property charges. The FHA lending limit and the lien amount recorded on title are not caps on how much you can borrow. You won’t be asked to start repaying the loan because your loan balance reaches the lending limit or the lien amount recorded on title.