We’ve all seen the commercials touting the benefits of a reverse mortgage. But like all advertisements, they don’t tell the whole story--they push the positives without mentioning the negatives.
So if you’re wondering if a reverse mortgage is the right move for you, you’ve come to the right place. Let’s explore the downsides of reverse mortgages without the sugar-coating of a TV commercial.
What is a Reverse Mortgage?
Despite the name, a reverse mortgage is not similar to a standard mortgage. In fact, it’s the opposite. Instead of borrowing money and paying the lender back in monthly installments, the lender pays you, and the loan is paid back years later when the home is sold. The lender may pay you a lump sum, monthly payments, a line of credit, or a combination of the three. This loan doesn’t need to be paid back for as long as you live in the house, which allows you to keep the title and continue living in your home. But if you sell, pass away, fail to pay property taxes and insurance, or move out for over a year, the loan comes due. And ultimately, when the home is sold, the lender keeps the proceeds to cover what they paid to you, with the remaining equity/money from the sale going to you/your surviving heirs.
You can only qualify for a reverse mortgage if you’re 62 years old and own your home outright (or have a small remaining balance on your mortgage). There is no income requirement, but there can’t be any other liens or loans on the home.
There are situations where a reverse mortgage could be the right option, but there are definite drawbacks. Let’s explore them:
When you have a mortgage, you gain equity with every payment, culminating in the ultimate goal of having 100% equity in your home. With a reverse mortgage, it’s the opposite. As the lender buys more and more of your home over time, the lender gains equity while your equity decreases, which means the home isn’t really an asset for you or your surviving heirs. And your heirs could run into problems if they inherit the home but don’t have enough money to pay off the loan. Not having much equity could also be an issue for you if you need money from the sale of the house to pay for a nursing home or other eldercare.
Higher Costs and Fees
With a standard mortgage, you pay the lender fees (also called closing costs), such as underwriting fees, appraisal and inspection fees, servicing fees, origination fees, counseling fees, and a mortgage insurance premium. But with a reverse mortgage, the fees are typically higher, both upfront and ongoing. Reverse mortgages tend to also have higher costs than other types of home loans.
Variable Interest Rates
As opposed to traditional mortgages, which have the same interest rate for the entirety of the loan, reverse mortgages have variable interest rates. This means the interest rate will change over time, and change isn’t good if the rate goes up. Interest accumulates and grows over time and is added onto your monthly balance, so a higher interest rate means even more money added to your loan balance.
No Tax Deduction
A borrower cannot claim a tax deduction on any interest until the loan is paid off, which means it won’t happen until the homeowner dies or the home is sold, vacated, etc…
Since you keep the title to your home, you are responsible for all home maintenance, utilities, taxes, homeowners association fees, and other expenses. Failure to insure or maintain the home could result in a foreclosure or the lender requiring you to repay the loan sooner than you expect.
A home is an investment, not just for the borrower, but also for the lender. To give you a reverse mortgage, the lender has to decide that it’s a good investment for them. If your home is run-down or needing repairs, the lender may see the home as a bad investment, and you may not even qualify for a reverse mortgage. You may need to make repairs to qualify, which would come out of your own pocket. This can get costly.
To be eligible to receive Medicaid benefits, you must not exceed certain financial requirements, both monthly and overall. Many states require that recipients’ assets cannot exceed $2,000 for single people and $3,000 for married couples. Since the lender pays you with a reverse mortgage, it will likely increase your income, depending on your reverse mortgage payment option. To be clear, Medicare and Social Security will not be affected.
Reverse mortgages are best suited for homeowners who plan to stay in their homes for a long time and “age in place.” But change happens whether you plan for it or not. The best thing you can do is cut down on the uncertainty by thinking ahead and considering the future when deciding on a reverse mortgage. Taking out a reverse mortgage too early could complicate things should something change in your life. If a situation arises where you need to move out of your home early due to declining health, the loss of a spouse, change in employment, etc..., the loan is due and must be paid off. If there’s a good chance that something will change in the near future, like wanting to downsize or move to a warmer climate, a reverse mortgage would likely not be best for you.
The Bottom Line
A reverse mortgage may be the right option for you, but it’s important to be aware of all the drawbacks to make an informed decision. While it provides long-term security and doesn't need to be paid back until the homeowner dies or the home is sold/vacated, it also costs more. With accumulating interest and fees, the loan balance increases over the course of the loan. Knowing these drawbacks, you may want to think instead about a home equity loan, refinancing or selling and downsizing.