How Do Reverse Mortgages Work?
Reverse mortgages allow qualifying older home owners to receive monthly cash payments from the equity built up in their homes. Is a way of tapping into home equity without having to sell or refinance their homes, or search for a hard-to-get second mortgage. By having a reverse mortgage, homeowners are able to keep ownership of their home, and live in it while they are borrowing tax-free cash one month at a time.
It’s simple to understand reverse mortgages. How do they work? Simply stated, the bank loans the owner a little bit of money every month, instead of a large amount all at once as with a conventional mortgage. The reverse mortgage loan does not get repaid until the owner dies, sells the house, or moves out permanently. Each month, the reverse mortgage balance grows larger while the equity gets correspondingly smaller. Another name for reverse mortgages are home equity conversion loans. This is because your home equity is gradually being converted into cash that you can use right away without having to sell your home.
In order to gain a simple understanding of how reverse mortgages work, you may compare them to traditional forward mortgages like this:
Forward Mortgage – you pay the bank each month. Your loan balance grows while your equity shrinks.
Reverse Mortgage – the bank pays you each month. Your loan balance grows while your equity shrinks.
Reverse Mortgages: How They Work
It is much easier to qualify for a reverse mortgage then it is for other types of loans. Since there is no need to make mortgage payments, there is also no need to document a consistent income or a good credit score, nor is there any need to scrape together cash for a down payment. Reverse mortgages were created as an easy way for American seniors to cash in the equity of their home without having to make monthly payments which they might not be able to afford.
The basic eligibility requirements for homeowners are:
- Age 62 or older
- Owning a property that qualifies
- Living in the property as a primary residence
Fees and Costs
Reverse mortgages are a great source of monthly income, but they do come with fairly high costs and associated fees. Fortunately, you may pay almost all of these costs out of the proceeds from the loan. Of course, this reduces the net amount of the loan available to you, but it does save you from having to pay these fees with cash out-of-pocket.
Loan Termination
Unlike traditional forward mortgages, reverse mortgages have no predetermined maturity date. However, they are still loans that must be repaid at one time or another. A reverse mortgage normally does not need to be repaid until the last surviving borrower does one of the following:
- Dies
- Sells the house or moves out permanently
- Defaults on the loan agreement
The default provisions of the loan agreement play an important part of understanding how does a reverse mortgage work, so it’s very important to be aware of them. Common provisions that might trigger a default on the loan include the following:
- Failure to insure the home
- Failure to pay property taxes
- Declaration of bankruptcy
- Additional borrowing against the home
- Committing fraud or misrepresentation
Loan Repayment
When the reverse mortgage loan finally becomes due and payable for whatever reason, then the entire balance of the loan must be paid in full. Usually, the owners or their heirs will sell the home in order to pay off the loan. But the loan may be repaid using funds from any source. For example, a child might choose to sell his or her own house and use the money to pay off the loan, thereby keeping the family home.
- Other articles you might enjoy:
The Foreclosure Process Explained
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Great Home Improvement Ideas: Portable Buildings
- Return to Aspen Dance Realty to discover all about second mortgages.