A magical mortgage that paid you every month instead of you paying the lender—who wouldn’t want to opt into such a fantastic offer?
This kind of slippery language is actually one of the downsides to the reverse mortgage industry. Like many products and services aimed at older adults, reverse mortgages have more than their fair share of predatory businesses out to make a quick buck.
After you weed out the bad actors, is reverse mortgage a good idea for seniors? It can be.
There are pros and cons of reverse mortgages to consider, and your specific circumstances—financial situation, goals, age, equity, and more—will determine if this is a debt vehicle that can benefit you.
What Is a Reverse Mortgage?
When you take out a traditional mortgage, the lender provides a lump sum of money, and you pay off the principal and interest month by month over decades. As time goes by, your debt becomes smaller and the amount of your house that you own free and clear (equity) grows larger, until the debt is cleared through completing your repayment.
A reverse mortgage is a bit like flipping that hourglass over, so that:
- The lender pays you each month instead of you paying them,
- Your debt increases over time instead of decreasing, and
- Repayment occurs when the house is sold (or heirs pay off the mortgage).
It’s an unusual loan structure that was designed to help seniors stay in their homes while accessing their equity as a source of income.
Types of Reverse Mortgages
There are three main types of reverse mortgages1:
- Home Equity Conversion Mortgages (HECMs): Home equity conversion mortgages are the most common type of reverse mortgage and are insured by the Federal Housing Administration (FHA). They can be used for any purpose and are not limited to specific income or property value requirements. Learn more about the HECM benefits in our blog.
- Proprietary Reverse Mortgage Loans: These are not FHA-insured and are typically designed for borrowers with higher home values. They are offered by private lenders and can be a good option for those with high-value homes that exceed the HECM limit.
- Single-Purpose Reverse Mortgage Loans: These are offered by state and local governments as well as non-profit organizations. They are designed for specific purposes, such as home repairs or property taxes, and may have income or property value restrictions. Single-purpose reverse mortgages are the least common type of reverse mortgage.
When considering a reverse mortgage as a senior, it’s important to compare the options, fees, and interest rates from several lenders to ensure that you get the loan features you want and the lowest interest rate possible.
Eligibility and Requirements for Seniors
Reverse mortgages are specifically for seniors, but age isn’t the only requirement. A loan approval requires the borrower:
- Be age 62 or older
- Have no outstanding federal debt including federal student loans
- Own at least 50% equity, sometimes more (depending on the lender)
- Live in the home as a primary residence
- Go through consumer counseling to understand reverse mortgages
A reverse mortgage might be a solution for you if you own significant home equity but have low savings. If you’re just experiencing a short-term cash flow problem, however, the costs may outweigh the benefits.
How Does a Reverse Mortgage Work?
While it’s most often thought of in conjunction with receiving a monthly payment from the lender, you can actually structure a reverse mortgage payout in multiple ways. Choose from receiving the proceeds as:
- An immediate lump sum
- Monthly payouts, either for a limited term or lifetime
- Credit line
- A combination of the three
If you opt for lifelong monthly payments, it is possible to receive more income over time than the value of your home. Because there is no certainty about longevity, a bank is committing to make payments to you so long as you meet the terms and requirements—it’s a gamble for them.
Higher risk for a lender, however, typically comes with greater cost to the borrower. For a reverse mortgage, that’s reflected in significantly higher closing costs and rates of foreclosure compared to other mortgage and equity-backed debt plus required mortgage insurance premiums.2
Another limiting factor is the ceiling on equity leverage. With most equity-based loans, you can borrow up to 80%, 85%, or sometimes even 90% or more of the equity you own. With a reverse mortgage, you’re limited to borrowing 50 – 66% of your equity.
The Benefits of Reverse Mortgages for Seniors
If you’re hoping to remain at home throughout your golden years, you’re not alone. About 75% of adults 50 and over want to stay in their current homes.3
Financial Flexibility and Freedom
About one third of adults age 65+ are economically insecure (incomes below 200% of the federal poverty level) and almost half of adults age 55–66 have no personal retirement savings.4 A reverse mortgage can provide supplemental income to seniors with significant home equity who rely on fixed income sources like Social Security.
No Monthly Mortgage Payments
A fully owned house during retirement is less common than it used to be. These days, more seniors are carrying a larger amount of debt and home financing into later years—in fact, nearly two-thirds of households led by adults age 65+ have significant debt with a median of $31,050.4 Getting rid of a monthly mortgage payment can be a major relief for a strained budget.
Tax-Free Income and Impact on Social Security
The money you receive from a reverse mortgage lender isn’t taxed as income and doesn’t impact your Social Security or Medicare.2
Potential Drawbacks of Reverse Mortgages
There’s a reason only about 2% of equity borrowers opt for reverse mortgages instead of a home equity loan or line of credit or cash-out refinancing.5 Reverse mortgages are complex and potentially risky debts.
Risks of Losing Your Home
A reverse mortgage can end in foreclosure if you’re not careful. To prevent it, homeowners must:
- Pay property tax
- Maintain homeowners insurance
- Keep the house in good condition to preserve property value
And while the loan usually comes due upon the homeowner’s death, it can also be called in if they move out (even for medical reasons) for 12 or more consecutive months.
Impact on Heirs and Estate Planning
It’s still possible to pass a family home on to your heirs with a reverse mortgage, but they’ll have to pay off an ever-increasing mortgage in order to keep the property.
Fees and Closing Costs
Like any other type of equity-leveraged debt, reverse mortgages require a sale process that comes with closing costs—but the closing-day price tag for this type of loan can be as high as $40,000.2 Expect to pay:
- An origination fee up to $6,000
- A fee from a HUD-approved reverse mortgage counseling agency
- Standard closing fees (appraisal, title insurance, etc.)
- Mortgage insurance premium
Sale-Leaseback as an Alternative to Reverse Mortgages
Sale-leaseback programs are relatively new to the residential real estate market, but they’re growing in popularity, and can be a viable alternative to reverse mortgages. They allow homeowners to complete a property sale that includes a way to continue living in the home, whether it’s for a short transitional time before moving to a new situation or indefinitely.
What Is a Sale-Leaseback?
A sale-leaseback (SLB) combines two components into a single process. At closing, you’ll sign:
- A finalized sale agreement at a competitive, data-driven price
- A leaseback contract that enables you to remain in your home as a renter
This type of arrangement has been popular for centuries in commercial real estate and equipment, where selling buildings, land, or machinery with an arrangement to continue using them as a renter frequently helps businesses free up the capital they need to grow or operate.
For homeowners, it yields the same results: you can continue to use and live in the home as a renter while converting all of your home equity to cash.
Comparing Sale-Leaseback with Reverse Mortgages
When it comes to comparing a sale-leaseback vs reverse mortgage, on the surface, both arrangements appear to provide cash to seniors who then continue to live in their homes, but these are very different arrangements.
- Reverse mortgages are debt; SLBs do not include any debt
- If you don’t comply with reverse mortgage terms, you can lose your home to foreclosure
- With an SLB, you can stay in your home as a renter for as long as you choose
Benefits of Sale-Leaseback for Seniors
If you’re ready to trade in equity for a financial injection and ditch the cost and responsibility of homeownership, an SLB may be a solution for you. Sale-leaseback benefits include:
- Full equity access – A sale-leaseback unlocks all of your equity to invest, fund aging-at-home costs, or use as needed, instead of the 50–66% limit on equity leverage through a reverse mortgage.
- Debt freedom – You can avoid replacing a current mortgage with a new loan, plus you can potentially pay off current debts with sale proceeds.
- House upkeep – Instead of coughing up for a repair bill and dealing with the hassle of scheduling contractors, the services company takes care of the process and costs of major repairs and covered maintenance.
- Fewer housing costs – You can cancel your homeowners insurance policy and forget about property tax—the services company will be responsible for both. With a switch to a single rent payment, seniors still paying off mortgages may be able to reduce monthly housing costs.
Making the Right Choice for Your Retirement
Figuring out what’s right for you comes down to gathering information, securing expert guidance, and making a plan with specific goals.
Assessing Your Financial Situation
Take stock of your income, expenses, assets, debts, and credit score before making a decision about selling or leveraging your home. You’ll start off strong if you understand not only which debt vehicles and alternatives are available to you, but the current status of your finances.
Consulting with Financial Experts
If you don’t already consult with a financial planner, moving to a new stage of life and planning retirement funding are strong reasons to connect. A financial expert can help you identify tax implications, tighten your budgeting, and maximize your assets, particularly if you’re considering complex debt and choices that affect estate planning. If you have no retirement savings at 65, it’s even more pertinent to understand your options.
Planning for a Secure and Comfortable Retirement
What are your unique needs and goals? Whether retirement means aging at home, traveling the world, or something in between, identify goals that include both needs and wants. Consider healthcare options, cost of living, and right-sizing your living situation.
Reverse mortgages have the potential to be positive solutions for some seniors, but they are complex debts with serious risks.
Sale-leasebacks are a different, debt-free option open to all ages that also provide cash and a way to remain in your home.
Work with a financial expert and do some careful research before committing to either path.
- Investopedia. What are the Different Types of Reverse Mortgages? https://www.investopedia.com/mortgage/reverse-mortgage/types/
- Debt.org. The Reverse Mortgage: Pros and Cons. https://www.debt.org/real-estate/mortgages/reverse/
- AARP. Where We Live, Where We Age: Trends in Home and Community Preferences: 2021 Home and Community Preferences Survey: A National Survey of Adults Age 18-Plus. https://www.aarp.org/pri/topics/livable-communities/housing/2021-home-community-preferences/
- National Council on Aging. Get the Facts on Economic Security for Seniors. https://www.ncoa.org/article/get-the-facts-on-economic-security-for-seniors
- Investopedia. Reverse Mortgages in America: The Statistics. https://www.investopedia.com/reverse-mortgages-america-statistics-5224801