Many retirees face a dilemma. On the one hand, they would like to stay in their homes. On the other hand, they often need more money for health care, daily expenses and other purposes than they get from Social Security, pensions and their investments. Seniors might get the cash they need by selling their homes — but that means moving.
One solution to this problem is a reverse mortgage. These loans provide tax-free cash flow by tapping into the senior’s home equity. The borrower can stay in the home — and doesn’t have to make any mortgage payments (just the origination fees, which are typically taken from the home’s equity) as long as he/she lives in the house. When the home owner dies or moves out, the house is sold to pay off the loan.
Most reverse mortgages are home-equity conversion mortgages (HECMs), which are guaranteed by the federal government, ensuring that the home owner will always receive his payments. If, for some reason, the lender fails to make payments, the US Department of Housing and Urban Development (HUD) steps in to take over the payments. HECMs typically result in the highest loan amount. In limited situations, certain proprietary products may provide lower fees and a higher loan amount. HECMs are available only to home owners who are age 62 or older.
Traps: Many seniors have been wary of reverse mortgages because of the high fees charged on the origination of the mortgage. In addition, the loan amounts were capped at levels that did not appeal to some owners of expensive homes.
Last summer, the Housing and Economic Recovery Act of 2008 was signed into law by President Bush. Among the new law’s many provisions are some that are designed to reduce the costs and raise the loan ceilings of HECMs. New opportunities…
Under prior law, the “origination fee” that lenders could charge on an HECM ranged up to 2% of the home’s value or 2% of the local HECM lending limit, whichever was lower. (The fee is not based on how much you borrow.) In many areas of the US, that lending limit was a home value of $362,790.
Therefore, the origination fee for a reverse mortgage could easily be $7,255 (2% of $362,790).
New law: The maximum origination fee is 2% of the first $200,000 of the home’s value and 1% of the remainder, with a total cap on origination fees of $6,000.
Even if you have a very expensive home, with much higher HECM limits (see below), under the new law, you won’t pay an origination fee higher than $6,000.
The amount that seniors can borrow with an HECM depends on several factors…
As a result, the more a home is worth, the more money a lender is likely to advance.
Even in expensive housing markets, HECM lending limits have not gone higher than $362,790.
The new lending limits: Effective December 31, 2008, there will be a new HECM lending limit of $417,000 in most parts of the country. In certain expensive housing markets, the lending limit will be higher — up to $625,500.
Impact: Reverse mortgages will be able to provide more money to owners of expensive houses than has been the case in the past.
Helpful: AARP has a reverse mortgage calculator (www.rmaarp.com) that tells you how much money you can get under reverse mortgage programs.
In addition to capping fees and raising loan limits, the new law creates rules that promote “independence and quality” of reverse mortgage counseling — all potential HECM borrowers are required to seek qualified counseling before applying for a reverse mortgage. Counselors must not be related to the lender and must have passed a test or meet a certain standard approved by the Federal Housing Administration.
Who can help you: A loan counselor who is employed by a nonprofit or public agency approved by HUD. To find such a counselor in your area, contact HUD’s counselor referral service (800-569-4287, portal.hud.gov/hudportal/HUD?src=/i_want_to/talk_to_a_housing_counselor).
The government requires counseling because regulators are concerned that seniors might be exploited. A good counselor should enable you to come away from your meeting with a good idea of the costs as well as the benefits — and drawbacks — of a reverse mortgage in your specific situation.
Relief from sales pitches: The new law prohibits HECM lenders and their affiliates from requiring borrowers to purchase financial products, such as long-term-care insurance and annuities. Purchasing such products with reverse mortgage proceeds rarely, if ever, makes financial sense.
The new law also permits seniors to use HECMs to purchase a new home. This was not available under prior law.
Example: John and Joan Robinson are retirees in their 70s. They would like to move from their large home to a smaller residence that will be easier to maintain.
After selling their former house, the Robinsons buy a new one with a cash down payment and an HECM. Thus, they not only get cash from the reverse mortgage, they get to keep the proceeds from selling their original home, less the down payment and fees necessary to purchase a new house.
Bottom line: These changes make reverse mortgages more attractive to many seniors.
Nevertheless, a reverse mortgage is not for everyone. Spending money on the up-front fees usually makes sense only if you need the cash, you do not have another readily available source of funds and you intend to stay in the home for at least five years. You are paying substantial fees up front and yet that outlay may not provide much value if you stay in the house for only a short time period. If you stay in the house for a longer time you spread the up-front cost over many years.
