The Good, The Bad, and The Reverse Mortgage

8th March 2008

The Good, The Bad, and The Reverse Mortgage

posted in Personal Finance |

Reverse Mortgages are, in my opinion, a last resort for homeowners age 62 or older. If an agency is offering to help you find a reverse mortgage lender for a ’small percentage’ of the loan then just stop talking to these people. HUD provides this information without cost, just call 1-800-569-4287 for the name and location of a HUD approved housing counseling agency in your area. Also, if you are being urged to take out a reverse mortgage to obtain a deferred annuity then stop talking to these people as well. Deferred annuities are a bad idea for most seniors because they can restrict access to retirement savings well beyond one’s life expectancy. You can also receive free information about reverse mortgages by contacting AARP at 1-800-209-8085. Considering that 45% of reverse mortgage borrowers are single women, getting the right advice from objective parties is critical to honest information. Please do your research and closely analyze the pros and the cons before making a decision about a reverse mortgage.

The problem here is that there are vast seas of people in various industries (and possibly family members) who would love nothing more than to get their hands on your hard earned money. A financial decision involving hundreds of thousands of dollars and probably the loss of your home should be made with caution. So let’s take our time, do our homework, so that we can make an informed decision. Separating the good information from the bad can be difficult because of all the people trying to get their hands on your money.

A reverse mortgage should only be considered if your income is such that you cannot pay your bills and you plan on living in your home until your death. You are willing to tap the equity in your home using a reverse mortgage - but only with the complete understanding that your home will likely be sold at the time of your death by the lender - or by a family member selling the home to repay the?reverse mortgage.

What is a reverse mortgage?

From the AARP website “A reverse mortgage is a special type of home loan that lets a homeowner convert a portion of the equity in his or her home into cash.” Let’s put this into practice. Your home’s market value is $250,000 and you only owe $100,000. This leaves you $150,000 of equity that could possibly be tapped using a reverse mortgage. Let’s say your current house note is $900 per month. A reverse mortgage could approve a $100,000 loan and supply this in $900 per month increments to you. You could then use this $900 per month payment from the reverse mortgage to pay your house note.

This is how the commercials for a reverse mortgage can say things like “eliminate your house note,” or “a reverse mortgage will get rid of your house note and provide you with cash for any use you see fit.” While all of this is true these commercials fail to mention the “Cost” of this reverse mortgage. You didn’t actually think they were just going to give you the money with no future financial obligation on your part?

These reverse mortgage loans often have very high fees (more on this later) and interest continues to be added over the life of the loan until it is repaid or you die and your estate has to reconcile the debt against your home.

The good things about a reverse mortgage

The reverse mortgage loan is a mortgage against your house which is paid by a lump sum, monthly payments, or a line of credit - usually some combination of these three. Your qualification for the loan is not dependent on your income or credit rating. Only the value of the home versus equity is considered. The reverse mortgage does not have to be repaid until you die or move out and you get to remain in your home (keeping the title). The lender cannot come after your other assets such as other properties or investments, the loan only applies to the house.

The bad things about a reverse mortgage

From consumerlaw.org (you should click on this link) “Reverse mortgages are high-cost loans. Origination fees and insurance premiums typically eat up $25,000 or more of the total proceeds of a common reverse mortgage on a $250,000 house….Interest charges, which pile up over the life of the loan get added on top of that.”

If you take out a reverse mortgage and then later on decide to move you could be left with less cash than if you had simply sold the home in the first place without acquiring a reverse mortgage.

If you are not in love with your current home perhaps you could just sell it instead. If you were left with $100,000 cash after the sale, could you move into an apartment instead and just keep the cash on savings? At a rent of $700 per month that much money would last you about eleven years if applied only to rent. As you can see there are many options to consider.

**Remember do not take out a reverse mortgage to buy other financial investments. The fees and interest of the reverse mortgage kill any profit you may earn from investing. Also, it’s true that a reverse mortgage allows you to pass the home on to your heirs - but keep in mind that the price tag of the mortgage will still be attached to it. What good is passing on a home to heirs with an $110,000 debt unless your estate has enough assets to cover this debt, leaving your heirs with the likely choice of renting out the home or selling it altogether?

This brings me back to my original statement. Don’t take out a reverse mortgage unless you are cash poor, need money for monthly bills, and you are not bothered by the idea of your home being sold at the time of your death.

The USA Today has an article describing how reverse mortgages could be unwise, especially in early retirement. In the article they interviewed Ernestine Boach age 62, who had taken out a reverse mortgage to buy deferred annuities since a financial adviser told her it would be a “wonderful deal for me.”? To keep her home Ernestine ended up taking out a loan in the amount of $140,000 to pay off the reverse mortgage so she could keep the house in the family in the event of her death.

“I was naive,” she says “I still am. I don’t understand all these policies. But I hope this story helps someone else.” Indeed, that makes two of us.

If you have found this information to be useful, please leave a donation for Barry.

Related Articles

* How to Cheaply Buy a Used Car

* Staying on Budget is All About Focus

* Unearthed - Why Funerals Are so Expensive

* Completely Insane Motorcycle Financing

This entry was posted on Saturday, March 8th, 2008 at 2:11 pm and is filed under Personal Finance. You can follow any responses to this entry through the RSS 2.0 feed. Both comments and pings are currently closed.

1 On March 8th, 2008, Corey Matelli said:

Thank you for this article. I am a Reverse Mortgage loan officer, so as an expert in the field, I want to add my 2 cents. I’m not here to “sell” anything, only to educate. Knowledge is power, and I believe in empowering people. There are many things you write with which I agree, and some (I’m sure unintentional) inaccuracies in it, as well. I’d like to point some things out.

First, where I agree. I have written many articles which strongly say what you have about running (not walking) away from anyone who suggests you obtain a RM for the purpose of securing deferred annuities. Whether it is an insurance professional or a RM professional, anyone suggesting you obtain a RM for this should be avoided.

Now about the inaccuracies. â€œReverse mortgages are high-cost loans. Origination fees and insurance premiums typically eat up $25,000 or more of the total proceeds of a common reverse mortgage on a $250,000 house”

This is simply untrue. Grossly untrue, to be frank. In the case of a 62 year old, their RM would pay them over $138,000, after fees. This means that not only will it retire their current mortgage, but give them over $38,000 as a line of credit, lump sum, monthly payments, or any combination of the three. The quote above misrepresents the closing costs by more than 54%. The actual closing costs would be about $11,600. I know, that’s still not cheap, but nothing like the ridiculous claim above. If you could pay $11,000 to get $138,000, wouldn’t you?

That leads to the concern about the interest and long term affect. The downside you see is due to the fact that there are no monthly payments. However, the beauty that the vastly satisfied reverse mortgage borrowers find is the fact that there are no monthly payments. If that same hypothetical 62 year old lived until they were 100 and took out no more than the $111,600 that was their initial balance, their balance after 38 years would be in the neighborhood of $700,000. That sounds astronomical, doesn’t it? But there are a couple things to consider. One, most people don’t live that long. Also, it’s likely that their home will appreciate in value between now and then. Should their home be worth less than the loan balance when they’re no longer in the home, the lender can only collect the fair market value of the home. If the heirs want to keep the home, they may secure their own financing, just like any other lien against the property.

In closing, you provided the link to the story in USAToday from about 45 days ago. You will find my comments beneath that article as I engaged in conversation in its wake (I’m identified as “ForwardByReverse” in the comments). You’ve no doubt heard the phrase, “if it bleeds, it leads”. Meaning of course, where there are victims, real or perceived, it’s going to make good headlines. The story here is definitely a sad one, and worth noting. However, it is also worth nothing that Mrs. Boach was duped by her so-called financial adviser, not by the reverse mortgage, itself.

“An adviser urged her to take out a reverse mortgage, available mainly to those 62 and older, and use the money to buy deferred annuities.”

I return to what I said in the beginning, and what you’ll see in my own articles. No one in the reverse mortgage lending world should ever refer, offer, imply, suggest or otherwise lead anyone into using their proceeds for the purchase of deferred annuities. In fact, your RM officer should specialize and focus on just that, reverse mortgage. Of course, the money is yours, and you can spend it on whatever you need/want. But that’s your decision. I agree with you that one should seek counsel from whomever they trust.

I have never, and will never offer a reverse mortgage to anyone who would not genuinely benefit from it. The situation must be right, and the borrower must understand how the program works. If you have further questions, I welcome your comments.

2 On March 8th, 2008, Corey Matelli said:

OH, one more thing! (sorry). In a recent study put out by AARP, 93% of borrowers and 75% of non-borrowers reported they were satisfied with their experience with lenders. It’s also worth nothing that 93% of existing borrowers reported that their reverse mortgage had a “mostly positive” effect on their lives. This is juxtaposed by 3% who noted it as “mostly negative”.

You may read more on this study here:

http://www.aarp.org/research/credit-debt/mortgages/inb999_revmortgage.html

3 On March 8th, 2008, Debt Prison said:

Hey Corey - Thanks for your input - actually the USA Today article repeats what you priced as the fees of $11,000 or so - that’s why I provided links to two different sources - I’m sure consumerlaw.org had their reasons for conjuring up the $25,000 - just not sure how they got to that figure. Like you - what really bothers me is financial advisors requesting America’s seniors take out a reverse mortgage to make investments of sorts - that’s the real problem with all of this, which is why that’s the first thing I attacked in the opening paragraph. However, for a senior citizen who is cash poor and really needs some help - a reverse mortgage can be a welcomed option. Once again thanks for both your comments and have a Great Day - Knowledge is just what the doctor ordered!!!

4 On March 13th, 2008, Searchlightcrusade.net said:

Despite misinformation about deferred annuities, I’m going to give a strong recommendation to “The Good, The Bad, and The Reverse Mortgage”. The author doesn’t know nearly as much about deferred annuities as they think they do. For instance, NASD rules explicitly prohibit investing with borrowed money, so only a fixed deferred annuity is possible. The so-called “Equity Indexed Annuity” is the prime culprit in these schemes, and there have been recent rulings making those substantially more difficult to sell without an NASD license that puts the seller under the purview of NASD rules. Any of these instruments can still be annuitized without penalty, so the money is not out of reach. I could go on, but the primary thing here is the reverse mortgage - on which I agree completely. If you think you have a need the reverse mortgage, you are so much better off “swapping down” or even just selling completely that I have yet to find a scenario where a reverse mortgage makes financial sense for the client. Selling the family home, that your kids grew up in, can be emotionally difficult, I know. However, RAMs are costly, high interest rate loans, and the numbers speak eloquently against them. But since they’re high commission products also, people interested only in a commission check will try to sell them - and they’re often not telling “The truth, the whole truth, and nothing but the truth.” I have in the past made jokes along these lines

Q: How do you know someone trying to sell a RAM is an unethical shark selling an overpriced worthless product?

A: By the fact that they’re trying to sell a RAM!

5 On April 1st, 2008, 2paupers » Blog Archive » Carnival of Living Cheaply - April said:

[...] Bass presents The Good, The Bad, and The Reverse Mortgage posted at Debt Prison, saying, “A financial decision involving hundreds of thousands of [...]

6 On April 27th, 2008, The Good, The Bad, and The Reverse Mortgage said:

Debt Prison presents The good, the bad, and the reverse mortgage.

7 On June 11th, 2008, s said:

Reverse mortgages aren’t bad in and of themselves, if the borrower understands the terms of the loan. Like just about any financial tool, it’s a double edged sword. Boach either didn’t know, didn’t remember or perhaps wasn’t told in clear terms what her loan meant. Generally would-be borrowers are required to undergo financial counseling on the matter. I feel for the poor woman, but that’s why they say ‘caveat emptor.’

8 On June 22nd, 2008, Max said:

Please keep these excellent posts coming.

9 On June 30th, 2008, Bgaston said:

hmmmmm, seems to me that you RM professionals somehow talk elderly people into going back into debt, when they were debt free, or nearly debt free. I was curious to find out the “cost” of borrowing this money. I found this…
http://www.daveramsey.com/etc/realestatecenter/index.cfm?FuseAction=dspContent&intContentID=9314

here is what he says,
The truth about reverse mortgages
Many elderly people in need of money look at getting a reverse mortgage. Reverse mortgages are very dangerous, especially for elderly homeowners. Reverse mortgages are very expensive and promise an uncertain amount of benefits.
For example, a typical reverse mortgage may provide a home owner $300 per month with a monthly compound interest rate of 1%. Over 10 years, the home owner receives $36,000 but will owe close to $70,000 – almost twice as much received! Also be aware that these loans have complex contracts and can even include “additional interest” clauses. These clauses can allow the lender to keep all future property gains should the property appreciate before the loan is paid in full.

Do yourself a favor and stay away from reverse mortgages. If you have a family member considering a reverse mortgage, convince them otherwise.

Seems really expensive to me!!