The main purpose of a reverse mortgage is to provide relief to people who are 62 years or older from their monthly mortgage payments, or to seniors who need cash, but whose net worth is tied to the value of their home. It can be a great way to take advantage of the equity you have built up. However, sometimes there might be a need or opportunity to sell your property.
You might want to buy a different house, move into a nursing home, or live with relatives. You might also want to spend your retirement traveling or your house’s value has gone up and you want to make a profit. No matter your reason – you are looking to sell your house. If you are unsure how the reverse mortgage affects the process of selling real estate, this article will help you better understand the reverse mortgage and walk you through the process of selling your home.
What is Reverse Mortgage?
Put simply, a reverse mortgage is a loan usually secured by residential property. It gives homeowners access to funds by converting their home equity into cash payments. This type of loan is typically examined by older homeowners whose net worth is mostly tied to the value of their home. A reverse mortgage can satisfy the need for a regular cash income, supplementing their pension, and the payment of the loan is withheld until they die, sell the house, or move permanently out of the home. This mortgage option usually requires no monthly payments, unlike a “forward mortgage” used to buy a home, so the interest is added to the loan balance each month.
If the home value decreases or the borrower continues to live in it for a long time, the rising loan balance might eventually become greater than the value of the home. However, generally, the borrower, or their family, is not held responsible for paying any additional loan balance above the market price of the home. The mortgage lender’s interest is protected by the insurance premiums, which provide a pool of funds lenders can take from if the loan balance becomes greater than the home’s value. The insurance premiums for reverse mortgages are adjusted by the Department of Housing and Urban Development (HUD).
Out of the three types of reverse mortgages, the most common is the HECM – home equity conversion mortgage. The HECM is an FHA-insured reverse mortgage option, meaning that the lender is approved by the Federal Housing Administration. The amount that you may borrow is based on the evaluation of your property’s value. If your home’s value is below $765,600, the offer for a reverse mortgage you will most probably receive from lenders will be a HECM. There are alternatives to an FHA-insured loan, but you need to always consider the pros and cons of each option, before making a decision. For example, compared to proprietary loans, home equity conversion mortgages usually give you bigger advances of funds at a lower total cost.
The loan from a reverse mortgage can be paid out in six different ways and it is up to the borrower to decide what they prefer:
- Lump-sum (fixed interest rate): You get all the proceeds at once when your loan closes.
- Annuity (adjustable interest rates): Also known as tenure; the lender will transfer steady equal monthly payments to the borrower, for as long as the home is a principal residence for at least one borrower.
- Term payments (adjustable interest rates): This option provides a series of monthly payments made for a set period of the borrower’s choosing, such as 10 years.
- Line of credit (adjustable interest rates): The homeowner can take money out as needed until a certain limit is reached, and you only owe interest on the amount you draw from the credit line.
- Tenure plus a line of credit (adjustable interest rates): The borrower receives steady monthly payments for as long as they reside in the home. And if at any point more money is needed, they can access the line of credit.
- Term payments plus a line of credit (adjustable interest rates): This is the same as term payments, including the option to access the line of credit, if you need more cash at any point.
There is also a reverse mortgage option called a “HECM for purchase” which is specially designed for when you intend to buy a different home than the one you currently reside in
How Does Reverse Mortgage Work?
In a reverse mortgage, instead of the borrower making payments to the lender, the lender pays the borrower. As seen in the previous section, it is up to you to decide how you wish to receive these payments. The only interest you will need to pay is on the money you actually take. You won’t have to pay anything upfront, as the interest is rolled into the loan balance, to be cleared once the loan is closed. You as the homeowner will also keep the title to the home. While your debt increases over the period of the loan, your home’s equity will decrease, which means fewer assets for you and your heirs.
The loan amount is secured by your residential property and becomes the collateral for the reverse mortgage. When the homeowner is no longer living in the home, the U. S. Department of Housing and Urban Development (HUD) servicer will move quickly toward a foreclosure to minimize any losses. The proceeds will go to the reverse mortgage lender to repay the loan’s principal, interest, mortgage insurance, and fees. Any money made from the sale that exceeds what was borrowed can be kept by the homeowner or the homeowner’s estate. In some cases, if the heirs wish to keep the home, they can actively pursue to pay off the mortgage.
From the point of view of the IRS, any payments you receive from a reverse mortgage are loan advances and are therefore not taxable and it generally won’t affect your Social Security or Medicare benefits.
Who Is Eligible For A Reverse Mortgage?
Any homeowner who is 62 years of age or older can apply for a reverse mortgage on their primary residence (second homes and investment properties do not qualify). You will usually need at least 50% equity—based on your home’s current market value—to qualify for a reverse mortgage, though standards may vary by lender. Under the Federal Housing Administration (FHA) rules, you may be eligible for a reverse mortgage if your property is a house, condo, townhouse, or a manufactured home built on or after June 15, 1976. Cooperative housing owners are not eligible for reverse mortgages since they do not technically own the real estate they live in.
If you have any existing mortgage balances, they must be low enough to be covered by the reverse mortgage proceeds. You also have the option of paying down your existing balance to qualify for a HECM.
All applicants must take a HUD-approved mortgage counseling course, which typically costs around $125, and takes at least 90 minutes to complete. It is a course meant to protect the borrower. The basic points every course should cover are how mortgages work, what are the financial and tax implication of taking out a reverse mortgage, the costs associated with it, and the various payment options. It should also explain how your eligibility for Medicaid and Supplemental Security income will be affected.
As of March 2, 2015, the FHA introduced new guidelines that made it necessary for all reverse mortgage applicants to undergo a financial assessment. The assessment aims to determine whether the borrower can keep up all applicable property charges, including property taxes and homeowner’s insurance.
Financial assessment evaluates two main areas:
- Residual income – the amount of income left after covering monthly expenses.
- Satisfactory credit – whether the homeowner has kept up with all housing and installment debt payments and whether there is any major derogatory credit on revolving accounts in the last 12 months.
Reverse Mortgage Cost
Here are the most typical fees paid in order to obtain a reverse mortgage:
- Counseling fee: around $125 for the HUD-approved mortgage counseling course.
- Origination fee: charged by the lender to cover the cost of processing the reverse mortgage. Origination fees can vary, ranging from nothing to a maximum of $6,000.
- Third-party fees: the fees of third-party services necessary to complete the reverse mortgage process, such as appraisal, title insurance, escrow, government recording, tax stamps (where applicable), credit reports, etc.
- Initial mortgage insurance premium (IMIP): a one-time cost paid at closing to FHA which protects both lenders and borrowers. If at the time of repayment the home sells for less than the reverse mortgage, the IMIP protects lenders by making them whole and the borrowers by ensuring they won’t have to pay the difference.
- Annual MIP (mortgage insurance premium): an ongoing charge, paid in installments throughout the life of the loan. The rate you pay for annual MIP depends on the length of the loan and the loan-to-value (LTV) ratio but is usually a rate of 0.50% of the loan balance.
Estimated closing costs are made public by mortgage lenders using several standardized documents, which can be used to compare different loan offers. These documents include – the Reverse Mortgage Comparison, Loan Amortization, Total Annual Loan Cost (TALC), Closing Cost Worksheet, and the Good Faith Estimate (GFE).
There are a few additional things you should consider about reverse mortgages:
- You owe more over time: The interest on your loan is added onto the balance each month over time, which means the amount you owe grows.
- Adjustable interest rates may change over time: As mentioned before, most reverse mortgage options have variable rates that change with the market, because they are tied to a financial index. Fixed rates are only applicable for lump-sum payments at closing. However, the total amount you can borrow is usually less than you could get with an adjustable-rate loan.
- Interest is not tax-deductible each year: Until the loan is paid off, partially or in full, the interest cannot be considered as deductible on income tax returns.
- Staying current on all other costs related to your home: Since you keep the title to your home, you remain responsible for property taxes, insurance, utilities, fuel, maintenance, and other expenses. And, if you don’t maintain your home, the mortgage lender has the right to make you repay your loan.
- If your spouse wasn’t part of the loan agreement: In some cases, your spouse can continue living in the home even after you die, provided that he or she takes responsibility for the property – continues to pay taxes and insurance, and maintains the home. They will, however, stop receiving payment from the lender.
- Fewer assets for you and your heirs: With reverse mortgages, your home’s equity will gradually decrease, which means you will be left with fewer assets for you and your estate.
Steps In Selling a House with Reverse Mortgage
If the market value of your home has increased and you are looking to make a profit, you might want to consider selling the property. An increased market value is, however, rarely the case with reverse mortgage real estate, because, unlike with a traditional mortgage, the loan balance on the reverse mortgage goes up every month, which actually takes away from the equity of your home over the life of the loan. The option to sell the house is only viable if the proceeds from the sale can pay off the reverse mortgage balance, as well as the cost of selling the property, which includes real estate transfer taxes, commissions paid to real estate agents, and any additional money you invest in making the house ready to sell.
If you decide to sell the property, the process is not too different from a general real estate transaction. Here is a breakdown of the typical steps you will need to take, outlining some of the differences specific to reverse mortgage property:
- Contact your mortgage lender and confirm how much is the balance owed on the loan. Verify if there are any additional lender fees. It is best to get the full payoff quote in writing.
- Find a real estate agent – although not required, an agent’s expertise in the field can help you with marketing and negotiating with buyers.
- Consult a real estate attorney to get their professional advice. The process of selling your home and paying off the reverse mortgage is usually handled by the title company. However, you can consult an attorney to make sure your decision is indeed in your best interest and the process is handled correctly.
- List the home for sale – beforehand you will need to prepare the home for sale, take photographs, market the property, and coordinate showings with potential buyers
- Sell the home – once your property is sold make sure that the reverse mortgage loan is paid in full from proceeds and that your account with the lender is closed. Then you’ll receive any remaining proceeds.
Even though it is possible to sell your home with a reverse mortgage, you need to carefully consider the pros and cons of such a decision. If your property’s value has gone up, it might be worth selling it. Estimate your sale proceeds, as they should be enough to pay off your loan, cover the selling costs, and still leave you some extra cash as profit. But if the equity of your home is lower than the amount you owe your reverse mortgage lender, selling the real estate might just not be worth the effort and expenses.