Reverse Mortgage Dangers: Top 3 Things to Watch Out For
As baby boomers prepare for retirement, reverse mortgages are going to be the next mortgage boom according to most analysts. The baby boom began in 1946 and continued until 1964. During those 19 years, 76 million people were born. As this segment of America begins to retire, a large portion of them will need to rely on their home equity to “make ends meet.” How they access that capital will be the primary focus of the mortgage industries for years to come.
The traditional “forward” mortgage has the homeowner borrow money through a traditional mortgage or home equity line of credit and make payments on that amount. The homeowner takes the money, places it in a secure account that earns interest, and uses the money to increase his income. The interest earned on the money is used to supplement the homeowner’s monthly payment. The problem is that the interest goes down as the money is used and the mortgage payments stay the same.
Reverse mortgages have been around since 1989, but their popularity is skyrocketing as a result of the wave of baby boomers retiring. These mortgage products are safe and beneficial when applied to the right homeowner and circumstances. Lendfast.com recommends that borrowers use the FHA-insured Home Equity Conversion Mortgage (HECM) when considering these mortgage products. Obtaining a private sector reverse mortgage can include more headaches and costs. However, as with financial products, there are some dangers that you should be aware of; Here are the top three reverse mortgage dangers to watch out for.
1) Reimbursement and Forfeiture – Most, if not all, reverse mortgages will not require you to make payments or repay the loan for as long as you live. Upon your death, your heirs will have the opportunity to remortgage the debt or sell the home and pay off the loan. If the home ownership exceeds the amount owed to the bank, your heirs will receive that income. If the house is “upside down,” your heirs are not required to pay the debt, but they will forfeit the house unless they pay the amount owed.
However, the FHA rules state: “When you sell your home or no longer use it as your primary residence, you or your estate will repay the lender the cash you received from the reverse mortgage, plus interest and other fees..” The danger here is “don’t use it as your primary residence anymore. This means that if you have to go to a hospice, nursing home, or intend to live in another house and use the house as a second home, the bank will collect the debt. This is definitely something to consider before applying for a reverse mortgage.
2) Cost and Interest Rates – At the beginning of reverse mortgages, they were offered almost exclusively with adjustable interest rates. Adjustable rates are still standard practice and you will almost certainly be offered this option to start with. Whose! There are fixed rate programs available now, and at current rates, adjustable rates will only increase in the future. It’s easy to be lured into an adjustable rate because lower interest rates on a reverse mortgage come with higher monthly payments. If the interest rate increases, your payment decreases, as does the time you have to dispose of the mortgage. Just remember, adjustable interest rates are a gamble and Las Vegas wasn’t built on winners.
A considerable disadvantage of reverse mortgages is the high initial costs. This cost can be offset by a lower interest rate over time, but some seniors choose other options to tap into their home equity. Reverse mortgage closing costs should be similar to most loans, except for the 2% mortgage insurance premium that FHA charges to insure the loan. FHA ensures that the lender will be paid regardless of the home’s value when and if the lender has to take over the property.
We at Lendfast.com have noticed that many homeowners are paying higher closing costs for reverse mortgages than traditional term mortgages. We believe this is because most homeowners are unfamiliar with reverse mortgages and tend not to shop around like traditional mortgages. That’s why we recommend the FHA-insured type of reverse mortgages because they have closing cost limits that lenders must adhere to. Always get two quotes or use the “competition of lenders” method when applying for a reverse mortgage. You should also read How a Reverse Mortgage Works, an article that further explains reverse mortgages.
3) Conservation, Taxes and Insurance – In traditional mortgages, your security deposit payments are added to your payment, but subtracted from your monthly check in a reverse mortgage. Most of the time you will be shown the monthly amount you will receive each month BEFORE any security deposits are withdrawn. This means you could sign up expecting to make $900 per month and only receive about $700. Make sure you receive the monthly payment LESS your escrow payment. Like most mortgages, you’ll usually be given the option to put down or not put down escrow, however, the bank has a vested interest in your home. Which means if you don’t maintain your insurance and taxes as they deem responsible, they can cancel the loan or force you into an escrow account.
When you consider that the bank is essentially buying your house, you can understand why they would want you to stay. his property in good condition. The problem is that this loan is being made to senior citizens. As they age, they may become unable to perform the necessary maintenance required by the bank. “Good shape” can mean thousands of dollars out of pocket for the homeowner when he considers what a new roof or fresh coat of paint costs these days. Ask the loan officer what the lenders policy is on maintenance and repair. You may want to take enough money up front to take care of future repairs so your monthly payment stays the same.