Reverse Mortgage Pitfalls

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Reverse Mortgage Pitfalls

The equity that senior homeowners have built up in their houses may be used to generate income (either in the form of monthly payments or a lump amount).

Reverse mortgages are a godsend for many elderly people who need money to live on, but there are certain drawbacks to the procedure that anybody thinking about it should consider. Learn all you need to know before committing to a reverse mortgage.

Key Takeaways

  • When thinking about a reverse mortgage, be wary of the exorbitant fees that might erode your home equity.
  • Your children may not inherit the family house if you are unable to repay the debt when you pass away; instead, the lender will get it.
  • Reverse mortgages can boost your liquid assets, which might make Medicaid benefits less readily available.

Beware of High Costs

The majority of reverse mortgages, sometimes referred to as HECMs or home equity conversion mortgages, are provided by lenders that are approved by the Federal Housing Administration (FHA). A variety of costs are associated with reverse mortgages. Others are paid over time, like your mortgage insurance payment or your service cost, while others are paid upfront, like your appraisal or credit report fee. Here are several expenses that might reduce the income you’ll get from a reverse mortgage.

  1. Charges from third parties: Closing costs from third parties can include an appraisal ($450 on average, but can be much higher depending on location), title search ($450 on average, but can be much higher depending on region and loan amount), insurance, surveys, inspections, recording fees, mortgage taxes, credit checks, pest inspection ($100), flood certification fee ($20–$30), and other fees.
  2. Origination fee: This charge is paid to the lender to cover the cost of processing your HECM loan. The costs are limited by the FHA but vary from lender to lender. The origination charge for residences valued at $125,000 or less is restricted at $2,000. Lenders may impose fees on properties worth more than $125,000 of up to 2% of the first $200,000 and 1% of the value of the property beyond $200,000, for a total of $6,000 in fees.
  3. Mortgage insurance premium: FHA mortgage insurance will cost money as well. Mortgage insurance provides a guarantee that you will get the anticipated loan advances. The mortgage insurance payment may be financed as part of your loan.
  4. Service charge: Lenders or their representatives offer servicing for the duration of the HECM in exchange for a fee. Sending you account statements, disbursing loan funds, and monitoring your compliance with loan terms like paying property taxes and hazard insurance premiums are all included in servicing. If the loan has either a fixed interest rate or an annually increasing interest rate, the lender may charge a monthly maintenance cost of no more than $30; if the interest rate increases monthly, the lender may charge a monthly servicing fee of no more than $35. The lender reserves the servicing charge and deducts it from your available money at loan closure. Your monthly loan amount is increased by the monthly maintenance cost. The maintenance charge may also be included by the lender into the mortgage interest rate.
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Homeowners in need of liquidity who are planning to sell their homes within the next few years would probably be better off applying for a more conventional line of credit, like a home equity loan, a home equity line of credit (HELOC), or a personal loan, given the significant upfront costs involved with the process.

It is forbidden to discriminate in mortgage financing. There are actions you may take if you believe that you have experienced discrimination because of your race, color, religion, sex, age, national origin, marital status, family status, usage of public assistance, or handicap. Making a report to the Consumer Financial Protection Bureau (CFPB) or the U.S. Department of Housing and Urban Development is one of these steps (HUD).

Your Kids Might Not Inherit the Family Home

The family house is often passed down to the following generation by parents. Even if the lending company does not get ownership of the property when a reverse mortgage is obtained, the homeowner is still obligated to repay the loan in accordance with the terms of the contract. This repayment is often accomplished by selling the house and giving the bank the revenues (or a part of them).

Some families may take out a life insurance policy on the homeowner and name an adult child or the lending institution as the beneficiary as a potential workaround to avoid selling the family property. By using this method, the bank may be compensated after the owner’s passing without having to sell the residence. To discover how to guarantee that the earnings from such a policy are enough to pay off the existing debt, think about speaking with an insurance agent. Remember that life insurance rates will be quite expensive for someone who is old enough to be eligible for a reverse mortgage. It could be wiser to forego the reverse mortgage altogether if you’re thinking about using this technique.

Reverse Mortgages May Impact Medicaid Benefits

Lenders are eager to claim that getting a reverse mortgage won’t effect Medicaid payments, but this is only true if the deal is correctly arranged. For instance, a lump sum payment will be considered an asset that must be depleted before you are qualified for Medicaid benefits.

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However, according to LongTermCare.gov, a website run by the U.S. Department of Health and Human Services, “the money is not taxable, does not count towards income, and does not affect Social Security or Medicare benefits as long as you spend the payments you receive in the month that you receive them.” Additionally, “not counting as income for Medicaid eligibility” are such payments.

The resource ceilings for Medicaid are based on the same ceilings as for Supplemental Security Income. Someone may not qualify for Medicaid if their assets total more than $2,000 for a person or $3,000 for a couple. However, you could be okay if you get monthly payments that you put toward your regular bills and don’t save so that you fall under the resource limit by the first of every month.

People receiving Medicaid now or who anticipate obtaining it should speak with an accountant and a financial counselor to make sure they are aware of all the possible repercussions of getting a reverse mortgage.

Other Potential Pitfalls

While the lending institution isn’t allowed to sue your heirs or take more than your home’s assessed worth, there are a few clauses that are often included in the tiny print of these contracts that might cause concern.

  • You could feel compelled to sell. Some reverse mortgages have provisions stating that the debt must be repaid if the last living borrower vacates the property permanently. This raises the worry that, conceivably, you may be undergoing medical care in a hospital and, upon discharge, discover that your property is in foreclosure. The necessity to sell your house might be triggered by a “permanent move,” which is defined as residing somewhere for more than 12 months in a row (such as a nursing home or assisted living facility).
  • Other payments are within your responsibility. Because homeowners are still liable for all property taxes, insurance, and maintenance, failing to pay taxes or failing to keep enough insurance might result in the loan being called in.
  • You may get less than you anticipated. Keep in mind that an appraisal may be required for the property. Therefore, even though you may have invested large amounts of money in your house over the years, there is a possibility that it isn’t worth as much as you paid for it. As a consequence, you could get less money as part of the reverse mortgage procedure than you had planned.
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What is an alternative to a reverse mortgage?

Strong retirement savings and investments are a viable substitute for a reverse mortgage. Downsizing your home and your spending may result in a more pleasant retirement than a reverse mortgage if you do not have the money to maintain your lifestyle in retirement. A cash-out refinancing, a HELOC, or selling the house to family members and having them rent it to you may be preferable options if you cannot or will not downsize and have no funds.

Could I lose my home if I go into a nursing home?

Yes. Even if it is unintentional on your part, if you do not physically reside in your house for more than 12 months in a row, your reverse mortgage will become due, and if you are unable to pay it off, you risk losing your property to foreclosure.

For whom is a reverse mortgage a good idea?

A reverse mortgage is a good idea for someone who:

  • inhabits a paid-off (or nearly paid-off home)
  • unable or unwilling to downsize and unable to maintain their present standard of living
  • refuses to give their house to an heir or a charity when they die away
  • lacks the income and credit history necessary to be eligible for other lending programs.
  • lacks enough funds to support their lifestyle
  • if they stay in a nursing home or assisted living facility for more than a year due to a sickness or a fall, they are okay with the possibility of losing their residence.

For whom is a reverse mortgage a bad idea?

When compared to alternative choices, reverse mortgages have exceptionally high costs and are often not a good decision for most individuals. They are a particularly awful choice for someone who wants to pass their family home to their heirs. The reverse mortgage may not be repaid by those who inherit the house. However, if the family has the resources to pay off the reverse mortgage, it could be more financially advantageous for them to forgo the reverse mortgage’s costs and have the inheriting family members gradually buy the property from the person who needs the additional funds from the reverse mortgage.

The Bottom Line

Older homeowners may access the equity in their houses via reverse mortgages, either in monthly payments or all at once. Before making such an arrangement, it is crucial to be informed of any possible drawbacks.

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