"In surveys, many borrowers say reverse mortgages have improved their lives and provided money they needed for retirement."
-- Charles Duhigg
A reverse mortgage can indeed be a big boon in retirement, providing needed income and improving your financial security. But reverse mortgages are not without some drawbacks and dangers. Learn more about them to see if getting one is a smart move for you, and start with the 13 misunderstandings below.
Reverse mortgages 101
A reverse mortgage is essentially a loan, with the amount borrowed not having to be repaid until you die, sell your home, or stop living in it (perhaps because you moved to a nursing home or died). At that time, the home can be sold to cover the debt -- or your heirs can pay it off and keep the home. Reverse-mortgage income is often tax-free, which is another big plus.
It's critical to plan for your retirement and to make moves to safeguard your money. A reverse mortgage can be part of your plan, but be sure to set yourself straight about reverse mortgages, by learning about some common misunderstandings.
Misunderstanding No. 1: Reverse mortgages are bought through salespeople
It's true that many reverse mortgages are sold by salespeople, some of them quite pushy, but that's not the only way to secure one. You might, for example, find some lenders to take a closer look at via the Lender Locater service of the National Reverse Mortgage Lenders Association. The Department of Housing and Urban Development can help you locate a lender that's approved by the Federal Housing Administration (FHA), too. Don't let yourself be pressured by any salespeople. Reverse-mortgage contracts can be complex, so be careful and thorough when reviewing them, ask lots of questions, and enlist the help of a financial professional, too, if you want.
Misunderstanding No. 2: It doesn't cost much to get a reverse mortgage
Reverse mortgages may be different from regular mortgages, but they do have some things in common, such as closing costs. In fact, closing costs tend to be higher for reverse mortgages than regular ones, and applicable interest rates tend to be higher, as well.
Misunderstanding No. 3: Once you pay the upfront costs, you're done
There are actually ongoing costs to a reverse mortgage, in the form of interest payments charged to the account, increasing the balance of your loan that will ultimately have to be paid off. The higher the interest rate on the mortgage, the faster that value will increase. You'll also likely need to be paying for mortgage insurance or some kind of insurance, in order to protect the lender's interests.
Misunderstanding No. 4: You'll get much of your home's value
A reverse mortgage will provide retirement income (or a lump sum), but it may not be as generous an amount as you expected. The amount you can borrow depends on factors such as how much longer you (and your spouse, if you have one) are expected to live, the value of the home, the equity you have in it, and prevailing interest rates.
Misunderstanding No. 5: You'll be done with home maintenance costs
Getting a reverse mortgage doesn't mean your lender will suddenly be mowing your lawn, paying your property taxes, and replacing the old roof. You will still be on the hook for home-related expenses such as property taxes, home insurance, home repairs and maintenance, and those can be substantial. Miss out on some of these payments, such as property taxes, and your lender might be able to close out the loan, causing you much grief.
Misunderstanding No. 6: The loan doesn't have to be repaid until you die
Don't assume that once you get a reverse mortgage, it won't have to be paid back until you die. Dying is indeed one way to make the loan come due, but it's not the only one. Once you leave your home, for any of a number of reasons, it will probably need to be sold to pay off the reverse mortgage. If you'd hoped to leave it to your children, you won't be able to do so unless the reverse-mortgage loan can be paid off in some other way. Some people have run into trouble if they got sick and were out of their home for an extended time, such as in rehab -- as their lender then moved to close out the loan and take possession of the house. That can be especially problematic if, for example, your grown children live there, too. Be sure you understand all the terms you're agreeing to when you get a reverse mortgage.
Misunderstanding No. 7: A reverse mortgage can only help your financial condition
Receiving income from a reverse mortgage might hurt your eligibility for various benefits, such as Medicaid and Supplemental Security Income. So while it can boost your income, it may also reduce it. Again, be sure to look into the big picture of how a reverse mortgage will affect you.
Misunderstanding No. 8: A spouses won't be hurt by a reverse mortgage
This misunderstanding was more problematic in the past, when the surviving spouse often ended up defaulting on the loan and facing foreclosure after a reverse mortgage holder died. Regulations have strengthened protections for spouses in recent years, but it's worth taking a close look at any fine print and asking pointed questions. It can be especially dangerous if your spouse is not included in the loan.
Misunderstanding No. 9: Your equity will be unaffected
If you try to refinance your mortgage after getting a reverse mortgage, you may run into trouble. For one thing, your their equity will likely be smaller than you thought, because holding a reverse mortgage shrinks your equity in part via accrued interest expenses over time.
Misunderstanding No. 10: Reverse-mortgage rates don't change much
Whether you get a fixed or variable interest rate with your reverse mortgage can make a meaningful difference. Some people have complained to the Consumer Finance Protection Bureau that their reverse mortgages with variable interest rates raised the rates too quickly, costing them more, and that they were not able to renegotiate terms. This won't necessarily happen to you, but look into the possibility -- and, again, know the terms you're agreeing to.
Misunderstanding No. 11: Getting paid via a lump sum is a great idea
In some circumstances, getting your reverse mortgage payout as a lump sum may make sense. But for many people, monthly payments will be wiser. If you're not disciplined, you can spend too much of your reverse mortgage money too soon (especially if you've received it as a lump sum) and can end up in worse financial shape.
Misunderstanding No. 12: A reverse mortgage is your only option
Don't forget that you have other options when you need more retirement income. You may be able to generate income from dividend-paying stocks, for example, or via an annuity. You may also be able to sell or borrow against a life insurance policy, in some cases. A home equity loan might serve your needs, too.
Misunderstanding No. 13: You're on your own making this decision
It's a good idea to consult some objective mortgage and financial experts before deciding whether to get a reverse mortgage. You can find a reverse-mortgage counselor via the U.S. Department of Housing and Urban Development's website or its housing counselor referral service at 800-569-4287. You might also consult with a financial advisor or two, to explore all your options and make informed decisions. You can look for a fee-only one at www.napfa.org. With any advisor you consult, ask whether the advisor has any ties to the mortgage industry and will benefit in any way if you get a reverse mortgage.
A reverse mortgage might provide welcome income in retirement, but it's not necessarily your best bet. Think the decision through thoroughly, and perhaps discuss it with family members and anyone who will be affected by the decision. Remember that Social Security will offer some income in retirement, too, and that despite the average annual benefit being only about $16,000, making some strategic moves can increase the amount you ultimately collect from Social Security.