What is a Reverse Mortgage?
Reverse mortgages are loans available to homeowners age 62 and older who have a considerable amount of home equity. Secured against the home, reverse mortgages allow the homeowner to create additional cash flow for themselves using the equity they’ve built up over time in either a lump sum or in monthly payments. One benefit of a reverse mortgage is that they typically don't require any monthly payments. Instead, the entire loan then becomes due when the homeowner moves, sells the home, or passes away – an important distinction for you and your family to consider before signing the dotted line on this type of financing.
What are the 3 Types of Reverse Mortgages?
There are three different types of reverse mortgages you should know about when considering a lender:
Home Equity Conversion Mortgages (HECMs)
Most reverse mortgages today are HECMs, which are insured by the Federal Housing Administration (FHA), a part of the U.S. Department of Housing and Urban Development (HUD). These federally backed loans can be used for any purpose.
Single-Purpose Reverse Mortgage
Unlike HECMs, single-purpose reverse mortgages are not federally backed and can only be used for a purpose the lender specifies, such as home repairs, home improvements, or property taxes. These reverse mortgages are offered by some state and local governments as well as select non-profits, but they are not available everywhere. Of the three types of reverse mortgages, single-purpose reverse mortgages are typically the least expensive.
Proprietary Reverse Mortgage
Proprietary reverse mortgages are offered by private companies. These loans are not backed by the FHA and are typically designed for borrowers with high home values.
Getting Approved for a Reverse Mortgage
Unlike other types of home financing, reverse mortgages are restricted by age: you must be at least 62 years old to take out a reverse mortgage. Generally, the more equity you own in the home and the older you are, the more likely you will be approved for a reverse mortgage. Other factors a lender will consider when reviewing your application include an updated home appraisal and a financial assessment to evaluate your ability to keep up with property taxes, homeowners insurance, and other homeownership-related expenses.
Home equity conversion mortgages (HECMs) are one of the only financial products in the U.S. that require counseling before you sign the final agreement. Because a reverse mortgage could fully cash out what is likely your largest asset – your home – the U.S. Department of Housing and Urban Development wants to ensure that homeowners are fully informed about their options before committing to a reverse mortgage. Especially because a large majority of those considering these loans are retirees on a fixed income. During the application process, a counseling session with a HUD-approved agent will ensure you fully understand the implications of the loan as well as educate you on alternative financing options like home equity investments, home equity loans and HELOCs.
Risks of a Reverse Mortgage
The most important thing to think about when considering a reverse mortgage is your homeownership horizon. Knowing that there are multiple instances in which the entire loan would become due, it's worth asking yourself: