Ask Stacy: How Do Reverse Mortgages Work?

Photo (cc) by pasa47

What do Henry Winkler, Robert Wagner and Fred Thompson have in common?

If you answered, “They’re all former stars of TV shows,” you’re right. But one other thing they have in common is they’ve all pitched reverse mortgages.

What’s a reverse mortgage and how do they work? I’m asked this question a lot. Examples:

Is a reverse mortgage something to look at? We have a 30 year mortgage on our house for $70,000 and thought it might be easier to let the house make the payments for us. The house is worth somewhere around $225,000.
– Roger

Can you give me a real, down to earth, honest to goodness explanation to the “reverse mortgage” currently being touted to seniors 62 and older. It almost seems like it’s “too good to be true” and you know what they say about those kinds of deals!
– Larry

What is your thoughts on Reverse Mortgages. I own my home, recently widowed and owe approximately $25,000.
– Mary

In case you somehow missed one of these commercials, Henry Winkler will whet your appetite with the following video: Check it out, then I’ll explain the nuts and bolts.

What’s a reverse mortgage?

A reverse mortgage gets its name from the fact that it’s a mortgage that pays you rather than requiring you to pay it.

Say you’re a senior and you own your home free and clear. Take out a reverse mortgage, and you won’t be making payments. Instead, you’ll be receiving money, either in a lump sum, monthly for a certain period of time, or even for life. So a reverse mortgage could be perfect for retirees with lots of home equity, but little income.

But to understand reverse mortgages, forget the “reverse” and focus on the “mortgage.” Because at the end of the day, that’s all it is — a mortgage.

How they work

As I mentioned, reverse mortgages allow you to convert your home equity into cash, without having to sell your home or make payments. As with any mortgage, you apply through a lender, although pretty much any homeowner meeting the age requirement will qualify.

You can repay the mortgage anytime, but it must be repaid when you die or when the home ceases to be your permanent residence. If you or your heirs can’t repay the loan, your home goes to the lender.

While there are different types of reverse mortgages, the most common are home equity conversion mortgages, backed by the U.S. Department of Housing and Urban Development. They’re available only to those 62 and older.

As with any money you borrow, reverse mortgages are tax-free. You can get the money in several ways:

  • Fixed monthly payments over a specific number of months.
  • Fixed monthly payments for life, or as long as you live in the home.
  • A line of credit you draw on as often as you want in whatever amounts you’d like.
  • A combination of monthly payments and line of credit.

You won’t give up the title to your home. You’ll still own it.

The amount of the loan and payments will vary based on your equity, along with the size and length of the payments and your age. To see how much you could be eligible for, use this calculator.

What’s the catch?

Catch No. 1: Something Mr. Winkler forgot to mention in the ad above is that reverse mortgages come with fees attached. Big ones.

When I did my first TV story on reverse mortgages many years ago, the homeowner I interviewed insisted he paid nothing for his reverse mortgage. He was right in the sense that he didn’t write a check to cover the fees, because they were rolled into the mortgage. But that doesn’t mean the mortgage was fee-free. In fact, reverse mortgages often have higher fees than regular mortgages. From the FTC’s reverse mortgage website:

Lenders generally charge an origination fee, a mortgage insurance premium (for federally insured HECMs), and other closing costs for a reverse mortgage. Lenders also may charge servicing fees during the term of the mortgage.

One fee example: Standard HECM mortgages include a 2 percent mortgage insurance premium, based not on how much you borrow, but the value of your home. So if your home is worth $500,000, that’s $10,000. Borrow only $100,000, and you’ve paid 10 percent in that fee alone.

There are lower-cost loans available. For example, the fee for the HECM Saver loan is only 0.01 percent of the home’s value, rather than 2 percent. But you can’t borrow as much with those loans and interest rates are typically higher.

As with any mortgage, you should shop and compare reverse mortgages and ask about fees. While some may be set by law, others could vary by lender.

Catch No. 2: Although you may be receiving checks in the mail, don’t lose sight of the fact that you’re paying interest, and unpaid interest is increasing the size of the loan. The longer the loan remains outstanding, the more interest will accrue.

Should you choose lifetime payments and stay in your home for decades, it’s likely you’ll have little, if any, equity to leave to your heirs, unless, of course, the home increases in value faster than the accumulated interest.

Catch No. 3 Since you still own the house, you remain responsible for property taxes, insurance and maintenance. This is one reason the FHA is considering new rules to make sure reverse mortgage applicants have the financial wherewithal to pay these expenses.

Catch No. 4: Do it wrong and you could be in trouble: for example, if one spouse is on the loan paperwork and the other isn’t. From a New York Times article:

Joan Serioux-Forde, 72, thought that she couldn’t feel more devastated after her husband, Christopher, died last year. Then, roughly a month after the funeral, she received a letter from Generation Mortgage, a reverse mortgage lender, informing her that unless she paid $293,000, she would lose her home in San Bernardino, Calif. Ms. Forde said she was never informed that if she wasn’t on the reverse mortgage deed, she would have virtually no right to stay in her home unless she bought it outright.

The bottom line

The benefits of tapping your home’s equity without selling your home or making payments are obvious. Whether a reverse mortgage makes sense for you, however, will depend on what other options you have.

If you have other resources, paying interest and fees is rarely your best bet. If you don’t, however, a reverse mortgage can be the difference between living and merely surviving. Just understand what you’re doing and shop carefully.

Before you’re allowed to take out a reverse mortgage, you’ll be required to receive counseling from an FHA-approved reverse mortgage counselor. So if you’re thinking of a reverse mortgage, call one in advance with questions. The vast majority are happy to help free of charge.

Got a money-related question you’d like answered?

You can ask a question simply by hitting “reply” to our email newsletter. If you’re not subscribed, fix that right now by clicking here.

The questions I’m likeliest to answer are those that will interest other readers. In other words, don’t ask for super-specific advice that applies only to you. And if I don’t get to your question, promise not to hate me. I do my best, but I get a lot more questions than I have time to answer.

Got any words of wisdom you can offer for this week’s question? Share your knowledge and experiences on our Facebook page.

Got more money questions? Browse lots more Ask Stacy answers here.

Disclosure: The information you read here is always objective. However, we sometimes receive compensation when you click links within our stories.

Read Next
5 Reasons You Should Not Delay Retirement
5 Reasons You Should Not Delay Retirement

Could you be waiting too long to quit working?

Never Buy These 12 Things at a Thrift Store
Never Buy These 12 Things at a Thrift Store

Sometimes a great deal is not worth it — or, even worse, is dangerous.

10 Common Expenses That Have Skyrocketed for Seniors
10 Common Expenses That Have Skyrocketed for Seniors

Retirees must stretch their dollars further and further these days — no thanks to these costs.

7 Reasons to Carry Mortgage Debt Into Retirement
7 Reasons to Carry Mortgage Debt Into Retirement

It often makes financial sense to not pay off your mortgage before retiring.

The Worst Nursing Homes in America Are Revealed
The Worst Nursing Homes in America Are Revealed

The nursing homes with a history of providing subpar care previously hadn’t been identified for a government list.

View this page without ads

Help us produce more money-saving articles and videos by subscribing to a membership.

Get Started

Most Popular
10 Things Frugal People Never Buy
10 Things Frugal People Never Buy

If you’re a true tightwad, the mere thought of spending money on these items gives you the willies.

10 Useless Purchases You Need to Stop Making
10 Useless Purchases You Need to Stop Making

You might as well flush your money down the loo if you spend it on these things.

The 16 Cars Most Likely to Last 200,000 Miles
The 16 Cars Most Likely to Last 200,000 Miles

One automaker takes half the spots on a list of the longest-lasting vehicles.

7 Social Security Rules Everyone Should Know by Now
7 Social Security Rules Everyone Should Know by Now

Confusion over Social Security is a shame, considering how many of us will need this money badly.

9 Shopping Mistakes to Avoid at Costco
9 Shopping Mistakes to Avoid at Costco

Are you missing out on serious savings at your favorite warehouse club?

If You Find This Thrift Shopping, Buy It
If You Find This Thrift Shopping, Buy It

They don’t make coffee makers like this anymore.

11 Products Now in Short Supply Due to the Pandemic
11 Products Now in Short Supply Due to the Pandemic

Many goods we take for granted have become tough to find in 2021.

7 Kirkland Signature Items to Avoid at Costco
7 Kirkland Signature Items to Avoid at Costco

Even if it seems you save a bundle buying Costco’s Kirkland Signature brand products, they may not be the bargain they appear to be.

14 Things You Should Stop Buying in 2021
14 Things You Should Stop Buying in 2021

These convenient household products come with hidden costs that you might not have considered.

3 Ways to Get Microsoft Office for Free
3 Ways to Get Microsoft Office for Free

With a little ingenuity, you can cut Office costs to zero.

Is Writing a Check Still Safe?
Is Writing a Check Still Safe?

Every time you pay by check, you hand your bank account numbers to a stranger.

6 Ways to Protect Your Retirement Accounts From Hackers
6 Ways to Protect Your Retirement Accounts From Hackers

Imagine having $245,000 stolen from your retirement account — and not being reimbursed.

8 Things You Should Replace to Improve Your Life Today
8 Things You Should Replace to Improve Your Life Today

Being frugal isn’t smart if you put off replacing these items.

This Is the Most Dependable Car Brand in the U.S.
This Is the Most Dependable Car Brand in the U.S.

This brand’s vehicles are least likely to give drivers repair headaches, according to J.D. Power.

13 Amazon Purchases We Are Loving Right Now
13 Amazon Purchases We Are Loving Right Now

These practical products make everyday life a little easier.

7 Hidden Sections of Amazon Every Shopper Should Know
7 Hidden Sections of Amazon Every Shopper Should Know

These little-known departments of Amazon are gold mines for deal-seekers and impulse shoppers alike.

7 Income Tax Breaks That Retirees Often Overlook
7 Income Tax Breaks That Retirees Often Overlook

Did you realize all these tax credits and deductions exist — or that they apply to retirees?

7 Social Security Benefits You May Be Overlooking
7 Social Security Benefits You May Be Overlooking

There’s more to Social Security than retirement benefits.

The 6 Best Investing Apps for Beginners
The 6 Best Investing Apps for Beginners

If you’re looking to ease into investing in the coronavirus economy with just a little money, check out these easy-to-use tools.

View More Articles

View this page without ads

Help us produce more money-saving articles and videos by subscribing to a membership.

Get Started

Add a Comment

Our Policy: We welcome relevant and respectful comments in order to foster healthy and informative discussions. All other comments may be removed. Comments with links are automatically held for moderation.