Despite the downturns in the housing market and the economy in general, one segment of the real estate loan industry that continues to grow is the reverse mortgage market—up 37 percent in 2008 according to Consumer Reports. In their advertising efforts, reverse mortgage lenders sometimes make these deals look like easy money for seniors. But there are many considerations that potential borrowers, and the adult children who help care for them, should be aware of before signing any paperwork.
The principle behind a reverse mortgage is simple. Seniors in need of money—to pay for medical expenses, mounting bills, to maintain a lifestyle; almost any reason is accepted—can borrow against the equity in their primary homes. But a reverse mortgage is not like an equity line of credit, in which the deal is based on income and the borrower must begin paying the loan back immediately. Instead, the lender pays the homeowner the equity in either a lump sum or regular payments, and no payment against the loan is due until the borrower(s) no longer use the home. When that event occurs, however, whether through the death of the borrower(s) or moving away, the loan becomes due in full. Usually the borrower(s) or their heirs pay off the loan with the sale of the home.
The good news is that even if the borrower(s) lives another 30 or more years, no payments are due and they get to stay in their home all that time. If that is the case, the value of the home will probably have gone up significantly and the loan balance will be no problem to pay off.
But if the borrower(s) pass away or move after only a few years, it could create a financial hardship. Here’s why: Reverse mortgages are very expensive loans, with many up-front and ongoing fees. The up-front fees can be included in the loan, but then they continue to accrue interest. Again, according to Consumer Reports, the up-front fees like mortgage insurance, origination fees and closing costs average about $15,000 on a $300,000 home. Another $15,000 in costs comes from ongoing insurance premiums and service fees. If the borrower(s) haven’t stayed in the home long enough for the value to go up, then they won’t have the means to pay the loan plus interest. Figure this means staying in that home for 10 years at least, but that doesn’t even include the possibility of a real estate devaluation, such as we are in now. People whose reverse mortgages have become due in the last two years may be having a very tough time paying them—that includes heirs who become responsible for their parents’ estates.
One particular scam to watch out for is unscrupulous reverse mortgage lenders who convince senior couples who have an age difference to apply for the reverse mortgage under the name of the older spouse only, to make it easier to qualify, by taking the younger person’s name off the title. But if the older spouse dies, then the younger one is left with the bill, and no claim to the home. Another scam caregivers should monitor is financial advisers who convince seniors to take equity money to put into “sure thing” investments. If the investment doesn’t work out, the borrower(s) still has to pay off the loan.
Considering the potential problems such an arrangement can cause, it’s best to be very, very careful before entering into a reverse mortgage. There are many online and local resources that can help you make a decision, and we recommend consulting a variety of them before moving ahead. Be careful about online sources, though. Many reverse mortgage lenders masquerade as unbiased sites designed to “guide” visitors to an informed decision about the product, but their information is often overwhelmingly one-sided about the benefits of reverse mortgages. If the site contains a “reverse mortgage calculator,” or a link to apply for a loan, chances are they are in the business of selling reverse mortgages and therefore their information is biased.
We especially urge children of senior parents to remain involved in their parents’ finances to guard against unnecessary spending and bad deals.