Money Matters

Beware the bite of a reverse mortgage

CorrespondentSeptember 19, 2010 

Q: The value of our home has fallen. I know we are not alone, but we had planned on selling our home, using some of our proceeds to buy a smaller home and using the remaining proceeds to supplement our retirement income.

Since the equity in our home has taken such a hit, someone suggested we look into a reverse mortgage. Is this something we should look into? Are these expensive and will the money received be taxed? Are there any drawbacks?

To qualify for a reverse mortgage, all borrowers must be at least 62 years old, and the home must be totally, or nearly, paid off. Usually the home must be your principal residence; this requirement is met if you live there more than half the year. Because the money you will receive is actually the principal or equity you have built up in your home, the money is not taxed.

Thanks to the Housing & Economic Recovery Act of 2008, the fees for these mortgages have fallen substantially. The origination fee is limited to 2 percent of the first $200,000 borrowed and 1 percent for amounts above $200,000. The minimum origination fee is $2,500, and the maximum is $6,000.

The amount you can borrow was also increased, to $417,000 nationally and up to $625,500 if you live in an area with high housing costs. Also, lenders can no longer require borrowers to buy financial products, such as annuities, as a condition of approval.

You will want to get quotes from lenders. Some are waiving origination fees and using a higher interest rate; others are reducing the origination fee, and others are reducing the servicing fee.

You can get a list of lenders approved by the U.S. Department of Housing and Urban Development by calling 800-569-4287 or going to its website, hud.gov. The National Council on Aging also has good information and calculators for reverse mortgages. They can be contacted at 800-510-0301, or go to its website, ncoa.org.

With a reverse mortgage, you keep title to your home, and most reverse mortgages require no repayment as long as you live in your home.

Your debt increases as payments are made to you, and your equity in the home declines. This debt must be paid back when the last surviving borrower dies, sells the home or permanently moves away.

When a reverse mortgage comes due, the lender recovers the amount owed from you, the borrower (or your heirs). If the amount owed is greater than the market value of your home, Federal Housing Administration insurance makes up the difference. If the amount owed is less than the market value of your home, you or your heirs keep the difference.

Payments may be taken as a line of credit, a lump sum, monthly payments for a specified number of years, or payments for the life of the borrower. The amount of cash you can receive depends on your age, the value and location of your home, interest rates and the reverse mortgage program you select. A higher payment will be offered the older you are, the higher value of your home and the lower the interest rate.

A reverse mortgage may be right in your situation, but you should consult with a qualified adviser to make sure you are aware of any potential negative consequences.

Elder law attorney Kristin L. Burrows with TrustCounsel recently shared a story that illustrated how important this can be. A couple whose home was their primary asset took out a reverse mortgage. The husband was taking care of his wife, who was in the early stages of Alzheimer's. The husband had a heart attack and died suddenly.

Their son came home to take care of his mother, but if the mother has to go into a nursing home for more than a year, the reverse mortgage will be called. If they don't have funds to repay it, the house will need to be sold, and any money left will go to the mother. This amount of money would affect her qualification for Medicaid.

You can read the complete version on the firm's blog, ncestateplanningblog.com.

Holly Nicholson is a certified financial planner in Raleigh. Reach her at www.askholly.com or P.O. Box 99466, Raleigh, NC 27624. She cannot answer every question.

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