Getting a reverse mortgage is to slowly but surely becoming a viable option for more of the elderly with each passing year. But is it the right thing to do? This is just one man?s opinion, but I think not, at least not in most cases. Most reverse mortgages are being taken for the purpose of holding on to a house that the occupant can no longer afford to keep. And even if you are borrowing out money for medical reasons or some other purpose, a reverse mortgage can leave you in a greatly weakened financial state, particularly in the long run.
But before we get into the downside of reverse mortgages, let?s first take a look at what they?re all about.
How reverse mortgages work
Generally speaking, reverse mortgages involve the lender making monthly payments to you – hence the term reverse. You take a loan based on the value of the house, and the lender makes payments to you, much like an annuity or pension, except that the payments are funded out of the mortgage on your house.
Actually, a reverse mortgage doesn?t always involve the lender making monthly payments to the borrower. There are three ways the lender can make the loan principal available to you:
- Through scheduled monthly payments, as discussed
- By giving you a credit line to tap the loan, or
- In a one time lump sum
In order to qualify for a reverse mortgage, you have to be at least 62 years old, and occupy the house as your primary residence. You must also own your home free and clear, or have a very small loan balance on it. Because you won?t be making monthly payments on the mortgage, you don?t need to qualify based on income or credit the way you do for a traditional mortgage.
The mortgage becomes due upon either the borrowers death, or when the borrower moves out of the property. In either case you must either pay off the mortgage or refinance it with a traditional mortgage in order to keep the house. If those efforts are not successful, the lender can seize the property and sell it to payoff the mortgage.
Generally speaking,?if the house sells for less than the amount of the outstanding mortgage balance, the borrower or the estate is not required to pay the shortfall. In the real world however, that?s not how it always works. In fact there is no shortage of horror stories taking place at the end of a reverse mortgage.
That being said, let?s talk about a better, cleaner way for retirees to raise cash or income.
If you need that much money it?s almost certainly time to sell
When a retiree, particularly in older one, begins considering a reverse mortgage, it?s likely that financial options are in short supply. After all, the only reason that someone would borrow money in order to pay for living expenses, home repairs or medical costs is because the bank accounts is just about empty.
I like to suggest something radical? when your finances reach that point, it?s time to seriously consider selling your home. If you?re 75 or 80 years old, and you have no other source of capital other than the equity in your house, it is unlikely that situation will improve in the future, and you need to consider a more permanent one.
The best way to deal with a capital shortage at that age is to simply sell the home. I realize that for many people, particularly the elderly, selling a home is an emotional obstacle of major proportions, particularly if you have been in the house for a very long time. But there are several substantial advantages to?selling your house outright, rather than taking a reverse mortgage:
- The house is probably slowly draining you though maintenance, repairs, and rising real estate taxes; selling the house will make those problems go away permanently.
- Selling the house will provide you with more capital than a reverse mortgage will, since it will give you access to 100% of the equity in the home, while the reverse mortgage will only give you a percentage of the property value.
- Unlike a reverse mortgage, selling a house will eliminate the entanglements and contingencies that come with having a loan on your house.
- A reverse mortgage could leave your heirs with the difficult task of having to deal with the lender, and with very few options on how to do that.
- If you take a reverse mortgage, and run out of money few years later, you?ll be facing the possibility of being foreclosed out of your property.
Using the house as an ATM got a lot of homeowners into trouble
By now virtually everyone knows that the housing/mortgage meltdown a few years ago was made significantly worse by the fact that people took equity out of their homes up to the maximum level they were allowed. As the property increased in value, they took more?cash out through either a home equity line of credit, or by recasting a new first mortgage. When property values began to fall in 2007, millions of homeowners?were “underwater” on their mortgages ??owing more on the house than the house was worth.
This started?the flood of foreclosures and strategic defaults, that spun into a full-blown financial crisis. A reverse mortgage follows the exact same process of equity stripping. The mortgage plays on the emotions of the elderly,?who are?fearful of losing their homes for lack of money. But if they strip out all their equity,?losing the house becomes a definate possibility.
What will you do when the equity is all gone?
Ultimately, the reverse mortgage is a short-term solution to what may be a permanent problem. If you?re taking the loan because you no longer have sufficient income to cover living expenses, it will just be a question of time before the reverse mortgage proceeds will be used up, and you?ll be back in the situation of having insufficient financial resources to pay your bills.
This is especially true since so many people are living well into their 80s and even 90s. Let?s say that at age 75 you take a reverse mortgage that includes a lump sum of the entire loan amount, and?five years later the cash is all gone.?You’re then?80 years old, and looking and feeling like you?re?going to?live another 10 years ? but now what???
Your cash is all gone, and so?is your equity. If property values in your area have declined?since taking the loan, you may not even be able to sell the house for enough money to payoff the mortgage.
The same can happen at the end of the term of monthly payments made to you by the lender. Let?s say that your reverse mortgage included a 10 year payment schedule beginning at age 70. What happens at 80 when no more money is coming in on the loan? You?ll be in the same situation you would be if you had?taked the?lump sum ? out of cash and out of equity.
A reverse mortgage will be nothing more than a temporary solution ? which is exactly what all loans are. Selling the house outright would be the permanent solution, and one that may even enable you to lower your living expenses.
Leaving your heirs in a tight spot
If you don?t expect to have any heirs, this won’t be a concern. Buy if you do, a reverse mortgage could leave your heirs in a quagmire upon your death. Although there are safeguards set up to prevent the worst from happening ? at least in theory ? many heirs face incredible complications when the owner of the property securing a reverse mortgage dies.
At a minimum, a reverse mortgage will leave less equity in the home, which will?mean fewer options upon the sale of the property. It will also create entanglements that won?t exist?if the property?is owned free and clear.?And there can?always be legal challenges ? a reverse mortgage lender can always cite some sort of legal technicality buried in the gobbledygook of the loan documents that will enable?the lender to?bring some sort of suit against your heirs.
If you need money, you?re far better off to sell your house, take maximum cash, and get on with a much simpler life. The reverse mortgage is not a wise choice for the vast majority of homeowners, particularly the elderly.
What are your thoughts on reverse mortgages? Have you ever had experience with one?