Reverse mortgage news · by Michele Mangold

The top 6 misconceptions you may have heard about reverse mortgages

In this article I will only discuss the FHA-insured and regulated Home Equity Conversion Mortgage, or HECM. The HECM is the most common reverse mortgage in the United States today. If a friend, relative or neighbour got a reverse mortgage, it is very likely they got a HECM.

Misconception 1: “A reverse mortgage is only for broke and desperate people”

Definitely not. Despite decades of educational effort by housing counselors, lenders and industry groups, the stigma persists. Many people think a reverse mortgage should only be a last resort. The reality is the opposite: broke and desperate people often do not qualify, because they have limited income or severely damaged credit.

A reverse mortgage is best used as a safety net, not a life boat. The idea is to add home equity to the retirement funding picture so you can live a more enjoyable and financially secure retirement. If you need a financial life boat, your circumstances may already be too dire to qualify. It is hard to insure a house that is already burning down.

Contrary to the stigma, plenty of wealthy seniors use them. I did a reverse mortgage a few years ago for a gentleman with a $5 million net worth. Did he need it? Probably not. But it gave him cash management options he would not otherwise have had.

Misconception 2: “The bank will take my house”

Not at all. The HECM is simply a home loan. You always remain the owner of your home and you are free to leave it to your heirs, who inherit any remaining equity whether they keep it, sell it, or let the lender sell it.

There is no purchase contract or sales agreement in the closing paperwork. Like a traditional forward mortgage, the closing package contains a Note — the promise to pay — and a Deed of Trust or Mortgage depending on your state, which secures the debt to the home. That is how it works for both forward and reverse mortgages.

Here is the simplest way to see it: a key requirement of the HECM is that you live in the home and pay the property taxes and insurance. If the bank owned your home, the bank would be paying the property taxes.

Misconception 3: “Reverse mortgage interest rates are sky high”

Not at all. The HECM is a home loan, so naturally it carries an interest rate. But HECM rates are usually comparable to traditional 30-year fixed mortgage rates.

Misconception 4: “I will leave a big mess for my heirs to clean up”

Not at all. A reverse mortgage is a non-recourse loan — the most that will ever have to be repaid is the value of the home. If the home is not worth enough to cover the entire balance, FHA covers the shortfall.

You remain the owner, so you are free to leave the home to your heirs, who have three options. If they want to keep it, they pay off or refinance the balance. If they want to sell, they can hire an agent or sell it themselves; the reverse mortgage is paid off at closing and the remaining equity goes to them. And if they would rather not deal with it at all, they can let the lender sell it.

Misconception 5: “Reverse mortgage closing costs are sky high”

Closing costs can be high, but not always, and there is more nuance here than the rumors suggest.

First, all mortgages have closing costs that run into thousands of dollars. The real question is who pays them — the lender, the borrower, or a combination.

You have probably heard of “no cost” traditional mortgages. Lenders offer those by charging a higher interest rate and covering the closing costs with a lender credit. They can only do this when the starting loan amount generates enough interest to justify it. A $250,000 forward mortgage at 5.5 percent generates almost $14,000 in interest in the first year alone; it is easy to absorb costs against that.

A reverse mortgage tends to start with a much smaller balance. A reverse mortgage with a $25,000 starting balance generates under $1,000 of interest in the first year. When closing costs run to thousands, lenders cannot absorb them, so they are passed to the borrower and rolled into the starting loan amount. That is what drives the perception of high fees.

There are situations where the lender can cover all or part of your closing costs, and I have done plenty of “no cost” reverse mortgages over the years. The most common case is using the reverse mortgage to pay off a large existing mortgage balance — a larger loan balance generates more interest, which makes a lender credit possible.

Misconception 6: “I can never sell my house — I am stuck in it”

Not at all. It is true that a reverse mortgage suits people who do not plan to sell soon, because of the upfront costs. But there is no prepayment penalty and no limitation on selling. It works like any other mortgage: you hire an agent, sell the home, and the balance is paid off at closing. Any remaining equity goes to you.

Hope this helps

If you have questions or need help, reach out to Michele Mangold at 480-740-5959.