The foremost authority on the reverse mortgage is The US Department of Housing and Urban Development (HUD). To understand this mortgage, one needs to consult their website (www.hud.gov) and search for "reverse mortgage" or as they refer to them as a home equity conversion mortgage (HECM). The website contains all the requirements both for the homeowner and the home itself.
What is it?
The HECM is FHA's (Federal Housing Administration) reverse mortgage program which enables a home owner age 62 or older to withdraw some or all of the equity in a home. The funds can be withdrawn in a lump sum or as a fixed monthly amount or a combination of both. Either way, there is a line of credit established with a maximum amount based on the home value and in line with FHA guidelines. The program has a number of stipulations such as the home must be owner occupied and be a principle residence but is available to multi unit properties and even condominiums. If the home has current debt outstanding, the proceeds of the HECM are used first to pay off this debt before the balance (if any) is paid to the homeowner. This means if you have an outstanding mortgage of any kind already, you may still use the HECM.
How much can I borrow?
The amount loaned is based on a number of factors such as the age of the youngest borrower, the current interest rate, the lesser of the value of the property or the FHA mortgage limit for the area, and finally the initial Mortgage Insurance Premium (MIP) option chosen (2% standard option or .01% Saver Option). The older the borrower(s), the more valuable the home and the lower the interest rate, the more can be borrowed. Appraisals are usually required and the HUD website says that $625,000 is the current maximum that can be loaned.
How do I pay it back?
You don't. I'm kidding right? No, I am not. You may never have to pay it back. As long as the home is your principal residence and one of the borrowers remains living in it, no payments are required. The home must meet the terms of the mortgage such as keeping it insured, paying any property taxes, and doing routine maintenance. Otherwise, the homeowner gets to spend the money in whatever way he chooses. When the last of the borrowers stops being a resident of the home, either due to death, a nursing home stay likely to be permanent, or just because he or she wants to move, the home is sold and the sale proceeds pay off the mortgage. If the sale proceeds are more than the amount owed, the homeowner gets the balance of the proceeds. If the sale proceeds are insufficient to pay the loan, FHA picks up the balance. That is what MIP is for and why it is charged. So even if the home declines in value, the borrower is not left with the problem.
So what is the catch?
The catch is the costs are higher than a typical mortgage which is why the press has such a problem with them. They include an origination fee than can be as high as $6000 (current cap). The closing costs include an appraisal, title search, surveys, inspections, recording fees, credit checks, and mortgage taxes. There is the MIP mentioned above as well as a monthly servicing fee that is deducted from the loan proceeds or added to the loan balance each month. These are in the $30-$35 range. There is of course interest charged each month on the outstanding balance. The total on these loans can amount to $12,000 or more to close the deal. Sounds like a lot of fees, right?
What is the problem?
Other than the origination fee, the monthly servicing fee and sometimes MIP, all the fees listed above are quite normal in a standard home mortgage. Yes, sometimes a conventional mortgage broker will cover some of the fees out of commissions they receive giving the illusion of a "no points/no closing costs" mortgage. They are still there and must be paid.
On most of the HECM fees, the borrower can fold the costs into the amount borrowed. Typically, very little needs to be put up front in cash. Given that HECM loan proceeds are allowing retirees to live out their remaining years enjoying a life they would otherwise never have, are the cost really that big an issue? Assuming the families of these retirees don't intend to keep the home being used for collateral, why would we worry about the fees charged? The lender (FHA) is taking all the risk and being paid to do so. The issue seems to be that the costs are high compared to conventional mortgages. But as we can see, with no payments to be made on the loan, it is a very different type of mortgage. The advantages to the borrower are the lack of any payment and the lack of worry about the valuation of the house after the loan is closed. There is no "upside down" loan for these borrowers. Used for the right reasons, this is a great product and can bring a real change to the lives of cash strapped retirees!
Chris Dowley
February 2011
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