Reverse Mortgage Pitfalls

Understanding Reverse Mortgage

Reverse mortgage is an arrangement between a homeowner, who is at least 62 years of age, and a financial institution (reverse mortgage provider) wherein the former is allowed to convert the home equity into cash. A reverse mortgage entitles a homeowner, who is in need of cash, to receive regular monthly tax-free payments in lieu of the built up home equity. A homeowner may also have the option of receiving a lump sum payment or may be given access to a line of credit. With the receipt of tax-free monthly payments, the equity on the house starts diminishing and is replaced by debt. In due course of time, the entire built up home equity gets displaced by debt and the institution, which was providing monthly payments, gains control of the home. However, the agreement is drafted such that the homeowner cannot technically outlive the term of the reverse mortgage. Once the homeowner expires, the home is sold off and the reverse mortgage provider recovers the money. Hence, a reverse mortgage gives the homeowner the facility of encashing the built up home equity during his / her lifetime. Generally, if a homeowner is no longer stationed at the primary residence for over 12 consecutive months, without prior consent of the reverse mortgage provider, the amount of cash, that is received by the homeowner, the interest and other charges have to be paid to the financial institution failing which the home is foreclosed. Selling off the home, having unpaid property taxes and inability to keep the property insured will also result in the homeowner having to forfeit the right to reside in the house. The heirs, say children, have the option of retaining the house by paying the requisite amount to the financial institution.

People may opt for a home equity conversion mortgage or a non-home equity conversion mortgage. The former is Federally-insured and is provided by the U.S. Department of Housing and Urban Development (HUD); while the latter is not Federally insured and can be obtained from a vast array of lending institutions. The total cost of the reverse mortgage includes the cost of originating the mortgage and the rate of interest on the reverse mortgage. Since a non-home equity conversion mortgage is not Federally insured, the total cost of the mortgage is much higher as compared to the total cost of the home equity conversion mortgage. The rate of interest on a home equity conversion mortgage is adjustable. The main disadvantage of a home equity conversion mortgage, is that the amount of money that can be sanctioned against the built up home equity is limited. People, whose requirement for cash exceeds the maximum amount that can be made available to a homeowner under a home equity conversion mortgage, may opt for a non-home equity conversion mortgage. One needs to bear in mind the following reverse mortgage pitfalls, in addition to advantages to ensure that one makes the best possible use of the facility of obtaining a reverse mortgage.

Reverse Mortgage Pros and Cons

Advantages of Reverse Mortgage: A reverse mortgage offers the homeowner, who has sufficient built up home equity, the benefit of tax free funds regardless of his / her income. The homeowner cannot technically outlive the term of the mortgage and the heirs also have the option of retaining possession of the home by paying the requisite amount to the reverse mortgage provider.

Reverse Mortgage Disadvantages: The main disadvantage of a reverse mortgage, is that the homeowner is responsible for the upkeep and the maintenance of the property. In addition to the cost of maintenance, the homeowner is responsible for paying property taxes, utility bills and home insurance premium, since the lending institution would like to ensure that the property is well maintained. Inability to meet the above payments will result in the house being foreclosed.

Medicaid, which is a need based welfare program, that is administered jointly by the Federal and the state government, helps eligible low income individuals pay for the cost of long-term medical care. Any money that is obtained from the reverse mortgage provider is counted as an asset and may disqualify the homeowner from receiving Medicaid benefits.

Generally, if the home is unoccupied for over 12 months, without prior consent of the financial institution, there is a good chance that the homeowner may have to forfeit claim to the home or pay a sum of money that is equal to the amount of cash disbursed by the reverse mortgage provider. Hence, a homeowner who has obtained a reverse mortgage may be penalized for staying in a medical facility for an extended period of time.

Availing a reverse mortgage also impedes the borrower from obtaining other loans using built up home equity. The heirs cannot lay claim to the home unless they pay the requisite amount, as specified by the reverse mortgage provider.

It would behoove the homeowner to bear in mind the above discussed reverse mortgage pitfalls. People, who are interested in availing a reverse mortgage, need to realize that there are substantial costs associated with loan origination, servicing, and interest. If the homeowner has second thoughts after availing the reverse mortgage, the only way to remedy the situation may be to sell the house and pay the amount of debt.