We’ve heard about how great a reverse mortgage is and how simple it is for owners to convert their homes into instant cash. But is it smiles all the way? To fully understand the downside, let us first take a look at what reverse mortgage is.
A reverse mortgage is essentially a loan for seniors over 62 who own a home. Unlike a traditional loan, the lender pays the borrower against the value of their home while using it as collateral. The interest set by the lender could be either fixed or variable through the tenure of the reverse mortgage. These payments can be disbursed as a lump sum, a line of credit, or monthly payments for a specified duration. The loan amount, along with interest accrued and other fees, needs to be paid off if the homeowner dies, permanently vacates or sells off the home.
This sounds tempting for seniors who live in their own homes with no other source of income by providing them with a steady cheque every month to cover expenses. There are, however, downsides to a reverse mortgage.
1. Stay Put Or Pay The Mortgage Due
This is a safe bet as long as the homeowner continues to reside in the home. If the borrower moves out permanently or shifts to an assisted living facility or nursing home for over a year, the loan becomes due.
2. You Can’t Pass On The Legacy To Your Heirs
The loan also becomes due if the borrower dies. A spouse or any person residing with the borrower will have to vacate the home as it then becomes the property of the lender. This also means that if the loan is not fully paid up, the house can not be passed on to heirs.
3. Pay By Their Rules
Since the loan is not dependent on the borrower’s credit score or the monthly income, it could become costly due to the interest rates and fees. Banks and lenders set the added costs associated with the mortgage high to gain the maximum profit.
4. The Danger Of Lump-sum Payouts
A large percentage of borrowers have opted for a lump sum payment instead of scheduled long term payouts. As there are no restrictions on how the money can be spent, often these vast sums are spent well before they are required for contingencies.
5. Defaults Lead To Foreclosure Of The Reverse Mortgage
If the borrower fails to pay maintenance, property taxes or make sure the insurance premiums are paid up, this leads to default. The lender can then foreclose the reverse mortgage and sell off the property leaving the borrower homeless.
6. Look Out For Scams
Many seniors, unaware of the system, often rely on others to guide them in financial matters. Using instruments like the power of attorney to apply for a reverse mortgage, many seniors have been scammed out of their homes and finances.
It is a federal law requiring that seniors who are potential borrowers under the Home Equity Conversion Mortgage system have to be advised by a counselor approved by the U.S. Department of Housing and Urban Development (HUD) before signing a loan application. Using a reverse mortgage as a last resort might not be beneficial if you or your heirs are unable to pay off dues. Although the Federal Housing Administration insures a lot of reverse mortgages in the United States, all borrowers must educate themselves about the pros and cons of a reverse mortgage and figure out if this makes sense for their finances in the long run.