Unlike all other mortgages, in which borrowers pay their lenders, reverse mortgages flip the money flow: They pay the borrower, either in the form of a credit line, monthly payments or a combination of the two.
The loan debt gets paid off with the proceeds of the sale of the home — either when a borrower moves out or passes away.
“You’re leveraging the remaining equity in your home,” said Jeff Corbett, a former mortgage broker and current consultant in the mortgage and real estate technology industries. He said the most “practical, prudent” reverse mortgage is probably one that pays you in monthly payments, rather than in a lump sum.
Different loan options
Home Equity Conversion Mortgages (HECM), which are insured by the Federal Housing Administration, are the most common form of reverse mortgages. To be eligible for an HECM, which may have a fixed or variable interest rate, you must be 62, own your home outright (or, in some cases, have a low primary mortgage balance) and live in your home full time. A borrower with an HECM must pay property taxes, utilities and hazard and flood insurance premiums over the course of the loan or otherwise face the possibility of foreclosure. HECMs may not exceed $625,500.
There are also single-purpose reverse mortgages, which are offered by state, local and nonprofit organizations. These mortgages may only be used for one purpose, such as home renovations or property taxes. Usually, only low- or moderate-income borrowers qualify for them.
The final option, proprietary reverse mortgages, may have higher interest rates and upfront costs but have no income or medical requirements. These mortgages have all but vanished in the wake of the housing crisis.
The maximum loan amount a borrower may receive from a reverse mortgage is determined by the length of the loan, the loan’s interest rate and the anticipated appreciation of the home’s value over the course of the loan. This is in order to maximize the chances that the home’s eventual sale will be enough to pay the accumulated debt.
For a home worth $400,000 that has no existing mortgage, that maximum amount — known as the “net principal limit” — could be around $193,000, according to Jack Guttentag, who gives mortgage advice on his website, The Mortgage Professor. Origination fees, mortgage insurance, closing costs and anticipated servicing fees are all tacked onto the balance of a reverse mortgage when it is originated, accounting for why your net principal limit may be smaller than you’d expect.