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How a Reverse Mortgage Works

by Jesse Campbell on
6/4/2024
in Housing and Homeownership
Senior couple sitting together on the porch.

The following is presented for informational purposes only, and should not be construed as legal advice.

A reverse mortgage can be a tremendous help to seniors looking for additional income during their retirement years. But there are drawbacks, and the concept itself is somewhat complicated. As the baby boomer generation continues to ease into retirement, it’s very likely that the demand for reverse mortgages will only increase.

For those approaching retirement and considering their financial outlook, the following information can help you decide if a reverse mortgage is right for you.

What is a reverse mortgage?

A reverse mortgage is a loan that a creditor takes out against your home, while you're still living in it. Despite the name, they aren't exactly the reverse of a traditional mortgage. The lender is not attempting to buy the property. Instead, the lender is simply loaning money which is secured by the home's equity. When the homeowner/borrower dies, permanently moves out, or sells their home, the reverse mortgage comes due and must be paid in full, usually with the proceeds from the sale of the property. Terms can vary, but some borrowers choose to get a lump sum payment, while others choose a line of credit or periodic payments.

Reverse mortgages are available from private lenders, from the U.S. Department of Housing and Urban Development (HUD), from some nonprofit organizations, and from some state and national government programs. Homeowners retain the title to their property, and therefore need to continue making insurance and tax payments. They are only available to homeowners aged 62 and older (spouses can be under 62 and have the option to maintain the loan after the primary borrower dies).

How much money can you get with a reverse mortgage?

The amount of money you get from a reverse mortgage depends upon the current market value of your home. However, you shouldn’t expect to receive the full value of your home. Instead, you’ll likely get a percentage of that value.

Keep in mind that although you will no longer be required to make payments on your home, interest on your reverse mortgage will accrue every month. In time, the balance owed may even come to exceed the value of the home (especially if home values drop). In many cases, borrowers (or their surviving heirs) are not required to repay these overages, but that’s not a guarantee, so you’ll always want to make sure you fully understand the terms of the mortgage agreement.

How do I get a reverse mortgage?

Like any loan or credit product, opening a reverse mortgage requires a combination of research, paperwork, and various hoops to jump through.

Do your research

A reverse mortgage is never without risk. Make sure you understand what you're getting into and what it means for you and your family to take out this type of loan.

Find a lender

You've got options when it comes to taking out a reverse mortgage, although the federally-backed Home Equity Conversion Mortgage (HECM) is by far the most popular type of reverse mortgage available. Consider all available options and weigh their features against your needs.

Get a reverse mortgage counseling certificate

Most reverse mortgage programs (including HECM) require you to work with a certified counselor before closing the loan. This ensures that you understand what you're agreeing to and that you'll be prepared to manage your reverse mortgage. You'll need a reverse mortgage counseling certificate in order to move forward with these programs.

Complete the application process

While every lender is different, you'll likely need to provide proof that you're at least 62 and that you own the home. The lender will also order an appraisal to determine the value of your home.

Loan processing, approval, and closing

As with any loan, the lender's underwriter will review the information and determine whether or not to approve the loan. Once approved, you'll have another chance to review all of the loan terms before signing the closing documents. Afterwards, you'll have three business days to cancel without penalty if you change your mind.

Receive payments

Now it's time to receive your loan proceeds. This may be a one-time lump sum, monthly payments, a line of credit, or some combination of two or more of those options.

Comply with loan agreement

You'll get to keep living in the property, but there will likely be certain requirements that you'll have to follow, such as keeping the house in good shape and paying taxes and insurance as needed.

Loan repayment

The loan typically comes due as soon as you move out permanently, pass away, or sell the property. If not already, the house will then be sold and the proceeds used to pay off the loan. If there's any equity left it passes on to you or your next of kin.

Should I consider a reverse mortgage?

Many seniors benefit from taking out a reverse mortgage, however, it is a big decision that should be made carefully.

First, consider all of your options – there may be something less expensive that will work better. Reverse mortgages usually have up-front fees, so they aren’t always the best option in the short-term. Also, if you take out a reverse mortgage, you are giving up a measure of control over what is likely your most valuable asset.

Reverse mortgages are secured, so you may not want to use a reverse mortgage as a tool to pay down unsecured debt. In other words, you’ll need to take some time to consider whether or not you want to use your home equity. Talking to heirs or a financial planner might help you with the decision making process.

If you're approaching retirement and struggling to see how you'll be able to afford living on a limited income, consider working with a certified financial counselor today. MMI offers free credit counseling 24/7, online and over the phone. We can help you assess your situation and provide tools and resources to help you overcome your biggest worries and financial challenges.

Tagged in Mortgages and foreclosure, Seniors, Retirement

Jesse Campbell photo.

Jesse Campbell is the Content Manager at MMI, with over ten years of experience creating valuable educational materials that help families through everyday and extraordinary financial challenges.

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