You have undoubtedly seen television advertisements for reverse mortgages. Typically it shows smiling retirees enjoying their lives free of financial worry. What you typically don’t see is any explanation as to what a reverse mortgage actually entails. The [Federal Trade Commission] explains a reverse mortgage as a tax free, deferred payment loan for individuals 62 and older. Essentially you agree that after your death, or when the property in question is no longer your primary residence, your home will be sold and the lender will be paid off at that time.
What do you get from a Reverse Mortgage?
Essentially you get tax free monthly payments ostensibly to supplement your social security and/or pension benefits improving your quality of life or removing financial burden from your golden years. There are numerous programs available through various sources. Payments can be for a specific period of time or for as long as you live in your home, referred to as a tenure plan. Some programs do allow for larger payments with a maximum withdrawal based on plan parameters. Ultimately, various lenders, which can range from municipalities to private lenders, offer a variety of options from which to choose.
The downside is twofold: 1) your house must be sold once you are deceased or if another location becomes your primary residence and 2) Even if you’re okay with your home being sold, a great portion of your equity is already obliged to the lender so your heirs, or yourself in certain instances, will receive less benefit from the asset.
When is a Reverse Mortgage an Advantage?
- If the money is of dire importance but selling your home is a poor option. For example if you’re unlikely to find a less expensive living arrangement or if the real estate market is in shambles (we know all about that the last few years).
- If you have no heirs to whom you wish to leave your home then even if you aren’t desperate for the money you may want to consider a reverse mortgage so that you can gain some use of the equity. Of course many people leave their residence to a charity or alma mater. Remember the lending institution only gets the portion of the sale price they are due. The remaining equity could still be donated.
- There would also be certain economic conditions that could make a reverse mortgage profitable. For example if interest rates are low (like now) and the economy is on the uptick you could arrange for cash flow to invest now. At a later date, you or your heirs can then satisfy the loan if you wish to maintain ownership of the home. That is certainly risky as is any market based investment but is an option.
A reverse mortgage is basically an annuity funded by the future sale of a residence rather than by prepayments or a legal settlement as is a traditional annuity. Since the lender takes a great deal of market risk with uncertainty of future economic conditions don’t expect the rates to be to your advantage. Ultimately, borrowing money will reduce your financial well-being; however, under certain circumstances a reverse mortgage can be beneficial to retirees struggling to fund their retirement.
For more information on reverse mortgages try Reverse Mortgages For Dummies by Sarah Glendon Lyons or Reverse Mortgage Dangers: The Pros, Cons, Downside and Disadvantages by Jim Anderson.