Key Takeaways
- Reverse mortgages are specifically designed to help seniors ease their financial burdens in retirement, but they can also be applied to purchasing a new home.
- Buying a home with a reverse mortgage is reserved for those who intend to use it as their primary residence.
- If you qualify for a reverse mortgage, be sure to weigh the pros and cons, and check with a financial advisor before moving forward.
Often misunderstood, and even more frequently forgotten about, reverse mortgages aren’t given the attention they deserve from the retirement community. Whether it’s blind ignorance or sheer negligence, far too many people are unaware of exactly what a reverse mortgage could do for their golden years. Most notably, reverse mortgages can supplement income over the course of retirement. It is worth noting, however, that they aren’t solely relegated to tapping into accrued equity; they can also be used to buy a new home. It is entirely possible to use a reverse mortgage to purchase a property, which begs the question: should you? Hopefully you’ll find the answers you need in this reverse mortgage guide.
What Is A Reverse Mortgage?
Not to be confused with a home equity line of credit (HELOC), reverse mortgages are essentially loans that allow qualifying homeowners to borrow against their home’s equity. It is worth noting, however, that while both “loans” award qualifying recipients the opportunity to receive either a lump sum of money or a line of credit with varying degrees of access, reverse mortgages do not require the homeowner to have a “good” source of income or superior credit to qualify, nor will the recipients of reverse mortgages need to make any loan payments as long as they occupy the home.
As their name suggests, reverse mortgages won’t have the homeowner pay the lender, but rather the lender will make payments to the homeowner (hence the reverse designation). In return for qualifying for a reverse mortgage, the owner can choose whether they receive money in the form of one lump sum, or they can choose to open a line of credit that can be accessed based on how much equity has been built up. More specifically, reverse mortgages allow seniors (you must be at least 62 to qualify) to tap into the equity they have built in a home without actually selling it.
That’s an important distinction to make: buying a home with a reverse mortgage is not meant to be used as an investment strategy. Not only do you need to be at least 62, but the new home needs to serve as your primary residence. Again, reverse mortgages are meant to help retirees ease the burden of financial hardships in their later years.
Technically considered loans, reverse mortgages don’t have to be repaid until one of three criteria are met: the owner passes away, sells the property, or they stop living in it for any reason. When either of these three terms are met, the home can either be sold to cover the debt, or the owner’s heirs can pay off the loan and keep the house.
Again, reverse mortgages were designed to help seniors whose net worth is tied up exclusively in the homes they own. Subsequently, most seniors will use reverse mortgages to supplement their golden years when they run out of alternatives and social security isn’t doing the trick. That said, there’s one more option made available to those intent on using a reverse mortgage: buying a new home. Qualifying homeowners may use a reverse mortgage to buy a new primary residence.
Reverse mortgages do not cover the entire purchase price of a new home, however. More commonly, they’ll cover as much as 71 percent of the new home’s purchase price. The rest of the cost will most likely need to be covered by the sale of the old home, or with other retirement accounts.
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Can You Qualify For A Reverse Mortgage?
Not unlike every other loan option made available in today’s market, you must qualify for a reverse mortgage. Here are some of the qualifications homeowners must meet if they are to successfully apply for a reverse mortgage:
- The borrower must be at least 62 years old.
- The borrower must either own the property outright, or have built up a considerable amount of equity by the time they apply.
- The borrower needs to make sure they have enough money to pay ongoing costs: property taxes, insurance premiums, HOA dues, and anything else.
- The home has to be the owner’s primary residence.
- The borrower can’t have a delinquent federal debt.
In the event you do qualify, consult with a financial advisor to learn how to buy a house with a reverse mortgage.
What Types Of Homes Can You Buy With A Reverse Mortgage?
In addition to the homeowner’s personal requirements, the home they intend to buy with the reverse mortgage must also meet requirements of its own:
- The home must be of the single-family variety.
- If the home is two- to four-units, one unit must be occupied by the owner applying for the reverse mortgage.
- If the new home is a condominium, it must be approved by the U.S. Department of Housing and Urban Development.
- FHA-Approved manufactured homes do qualify.
- Reverse mortgages may be applied to some new construction homes.
Potential Benefits
Reverse mortgages are designed for one thing, and one thing only: to help older Americans through financial hardships when times are their most trying. If for nothing else, seniors are not awarded many opportunities to make more money outside of Social Security and what they have managed to build up into their golden years. That said, financial hardships s are particularly difficult for those that are 62 years of age or older. Thankfully, reverse mortgages are specifically designed to help people when they need it the most. Therein lies the single greatest benefit of a reverse mortgage: it helps financially strapped Americans when they can’t afford to help themselves.
It is worth noting, however, that a reverse mortgage can do more than offer money to pad the coffers of retired Americans. As I have already alluded to, a reverse mortgage can help them buy a home that better suits their needs. That could mean downsizing, or even moving to a better community.
According to BankRate, “A reverse mortgage for purchase allows older Americans to buy a house that better suits their needs without dumping all their retirement assets into it, which would be the case in an all-cash transaction. It also lets them avoid dipping into their monthly fixed income, which would occur if they took out a traditional mortgage.”
“This is not just a mortgage product. It’s a financial, cash-flow tool for retirees,” says Rob Cooper, national director of strategic partners for Reverse Mortgage Funding. “It gives them more purchasing power if they don’t want to drain all their assets. It also gives them the luxury to get a better lot, to add all the upgrades they want and to still have no mortgage payment.”
Unlike the traditional mortgages we have all grown accustomed to, reverse mortgages do not require their recipients to make monthly payments, as that would defeat the purpose of the loan. Reverse mortgages are, after all, designs to ease the financial burdens of retirement.
Possible Risks
Reverse mortgages are great for unique situations, but they are not without their own caveats; namely, the negative impact of a down market. More specifically, the possible risks associated with a reverse mortgage deal primarily in the amount of equity a borrower has in a particular asset. If the borrower purchases a new home that, for one reason or another, loses equity and turns upside down, they run the risk of ending up with nothing. You see, the owner (or the heirs) are entitled to whatever is left in equity once the reverse mortgage is paid off. In the event the home doesn’t appreciate, however, and instead depreciates, the borrower may be left with nothing.
That’s important to note, as the home is used for collateral in a reverse mortgage agreement. “When the homeowner moves or dies, the proceeds from the home’s sale go to the lender to repay the reverse mortgage’s principal, interest, mortgage insurance and fees,” according to Investopedia.
“The pitfalls are the result of the benefit of having no payments,” says Maggie O’Connell, a reverse mortgage specialist at ReverseMortgageStore. “As a result, you have a higher loan balance. You have accruing compound interest. It’s a trade-off,” she says.
The Motley Fool is also quick to point out that the closing costs associated with reverse mortgages are costlier than their traditional counterparts. What’s more, interest rates tend to be higher with reverse mortgages, as well, and interest charges are added to the balance of the loan over its duration.
That’s not all: “Once you leave your home, it will likely need to be sold to pay off the reverse mortgage,” says a piece by The Motley Fool. Unless borrowers can identify another way to pay off the loan, there may be no other way to keep the house in the family.
The majority of today’s retirees have managed to build up a significant amount of equity in their homes, and for good reason: they have had plenty of time to do so. That said, most retirees don’t realize that the equity they have managed to build could serve as a very valuable asset. A reverse mortgage, for that matter, awards qualifying homeowners the ability to tap into said asset and supplement their golden years without actually detracting from their other retirement accounts. It is worth noting, however, that the equity can actually help them purchase a more reasonable home in a better location, as long as it helps them in retirement. Reverse mortgages offer a great opportunity to get your housing situation in order, provided you mind due diligence and familiarize yourself with the potential downside. If, and only if, you are confident the rewards outweigh the risks, can I recommend moving forward with a reverse mortgage.
A reverse mortgage can be incredibly beneficial to the right borrowers, but they also have several drawbacks that warrant your consideration. Therefore, it pays to mind due diligence and approach the option with an open mind. Reverse mortgages are, after all, just another option for most people. There are most likely other options to consider, so be sure to consult a financial advisor before moving forward with your own decision.
Are you currently wondering if a reverse mortgage is in your future? Hopefully this reverse mortgage guide answered your most important questions. Let us know what we may have left out in the comments below.
