Introduction. The subject of this month’s newsletter is a brief discussion about Reverse Mortgages. First, what is a REVERSE MORTGAGE? It is a government insured mortgage available to seniors over the age of 62. There are no monthly payments! The loan is repaid from the sale of the house when the occupant dies or moves out. The mortgage proceeds can be used to pay off an existing mortgage, paid out in a lump sum, or paid in monthly installments. The borrower can choose combinations of the above uses of funds with the exception that any existing first mortgage has to be paid off first before funds can be disbursed to the borrower.
Background. A Reverse Mortgage is technically called a "Home Equity Conversion Mortgage (HECM). Searching Google.com, you are likely to wind up at the website for Fannie Mae or the Federal Housing Administration (FHA), a unit of the Department of Housing and Urban Development. As explained at some length in an article in the Wall Street Journal for Wednesday, June 10th, the maximum value of a principal residence that can be the subject of a Reverse Mortgage was raised to $625,500 in February. This may be an opening to unlock equity in more homes and provide more assistance to seniors needing help with the expenses of daily living. Similarly, because there is no monthly payment, a Reverse Mortgage may be a better financial decision than renting, for seniors who are down sizing. Because of this flexibility, Reverse Mortgages are rapidly increasing in popularity. The Wall Street Journal article of June 10th notes that the number of Reverse Mortgages jumped nearly 20% in the months of March and April, from the same period a year ago.
How Does It Work? Again, using the WSJ example, a senior owning a house worth $500,000, with a $50,000 balance might get a $250,000 reverse mortgage. With these funds, the first mortgage would be paid and the borrower would have $200,000 left to draw in a lump sum, a monthly payment, or a combination. Or, for example, a couple in their 70's who are down sizing, might sell an existing home for $450,000. Rather than paying cash for a smaller residence, they might decide to take $50,000 from the sale proceeds and buy a $200,000 condo using a Reverse Mortgage of $150,000. Thus, they would have no monthly mortgage payment, but would simply be paying taxes, maintenance and insurance on the new residence. A careful financial analysis might demonstrate that based on their health and circumstances, their financial outlay might be reduced by using a Reverse Mortgage, rather than renting at $1200-$1500 per month or more.
How Much Can I Borrow? The maximum amount available is based on a HUD formula. That formula takes into account the age of youngest borrower, assumed interest rate, and the appraised value of your house. If the appraised value is higher than the maximum insurable amount for our area, then the lower figure is used. The maximum insurable amount in Michigan is now $625,000.
The age of the youngest borrower (if there are co-borrowers) affects the amount one can borrow. For example, an 85 year old borrower (or youngest borrower) can borrow substantially more against the value of the house than a 65 year old borrower. The reason is obvious - the life expectancy of the older borrower is less and, therefore, the interest that accrues on the loan until the youngest borrower dies or moves, would be much less for an older person.
What Are the Fees Involved? There has been a lot of negative publicity about the fees that are incurred in Reverse Mortgages. The origination fee, payable to the lender, is limited to 2% on the first $200,000 and 1% on any amount over that, with a cap of $6,000. There is an insurance fee of 2% of the maximum claim amount, and an annual ongoing fee of 1/2 percent of the mortgage balance. In many cases, the origination fees for the lender and for the insurance are paid out of the loan. In some cases, we understand, the borrower has up-front fees. However, in our experience in counseling clients, we have generally seen the origination fees paid from the loan. That is, the fees are added to the loan balance due to the lender when the house is sold. These fees do add up and should be a consideration in the decision to use your home to augment retirement income. You will note that the federal rules require counseling and a full explanation of costs. Our local agency suggests shopping around, as fees may vary.
What If The Amount Owed Exceeds The Value Of The Home, Or The Sale Proceeds? There is no deficiency payable from the borrower’s estate, if the proceeds from the sale of the home are less than the amount owed. The lender cannot force the sale of the home so long as it is occupied as a principal residence. If the borrower moves out or dies, the borrower or the borrower’s estate generally has six months in which to sell the home before it has to be turned over to the lender. We understand that obtaining an additional six months extension for the sale is relatively easy to get. Again, this probably depends upon the amount owed in relation to the value of the property. In the event that the sale proceeds exceed the amount owed, the balance goes to the borrower’s estate or trust.
Will HUD Be Able To Honor The Insurance? With the decline in housing prices, there is some concern that certain Reverse Mortgages may wind up under water. However, HUD is collecting insurance premiums from all borrowers which will help defray all losses incurred by the lenders. As with any insurance program, losses are possible. However, HUD is building reserves to cover future losses. Current appraisals will take into account the decline in property values, so seniors exploring the Reverse Mortgage option now may find that they are not able to borrow as much as might have been possible two or three years ago.
What Is the Bottom Line? Reverse Mortgages are not for everyone. If a senior has already moved to assisted living, a nursing home, or moved in with relatives, this option is no longer available. We have found that the program is most appealing to older seniors, often in the 80's, whose fixed income from social security or pension benefits is being squeezed by increased expenses. Because of their age, they generally can borrow larger amounts against the equity in their homes. Reverse Mortgages, despite their up-front costs, can often permit seniors to stay in their homes and augment their income without having to sell the residence and move to a rental. Moreover, as we pointed out above, in some cases where seniors plan significant down sizing, a Reverse Mortgage may be an attractive option to eliminate a monthly mortgage payment on the new, smaller residence.
Reverse Mortgages can be part of overall estate planning for seniors, and need to be considered in relation to the borrower’s age, health and the possibility that Medicaid might be needed to pay for nursing home costs. A Reverse Mortgage is not a "one size fits all" solution, but can be a handy tool in estate and financial planning. If you have questions regarding these matters, or government assistance programs such as Medicaid or VA Benefits, please call Jim Modrall or any of the attorneys listed below.
Donald A. Brandt, Joseph C. Fisher, Thomas R. Alward, Matthew D. Vermetten, Thomas A. Pezzetti, Jr., Susan Jill Rice, Gary D. Popovits, H. Douglas Shepherd, Laura E. Garneau and David H. Rowe at (231) 941-9660
©BRANDT, FISHER, ALWARD & PEZZETTI, P.C.
This newsletter is provided for informational purposes and should not be acted upon without professional advice.
