- The Washington Times - Thursday, September 1, 2005

On the surface, reverse mortgages sound like manna from heaven for many homeowners in the Washington area. Consumers older than 62 who own a home might be tempted to tap into the equity they have earned through homeownership by signing on for a reverse mortgage, which takes the equity from the home and converts it to cash for the owners as a lump-sum payment, a credit-line account, a monthly loan advance or a combination of these plans.

As home values have increased dramatically during the past few years, homeowners may find that their home has become a substantial asset — perhaps their only asset.

Before jumping into the reverse mortgage market, however, older homeowners should carefully review all their options to determine if this is financially advantageous. Other financial choices might provide monthly income without draining the equity in the home.

“Reverse mortgages have the biggest advantage for someone living hand to mouth, who owns their property outright and may be living on Social Security,” says Michael Rebibo, a certified financial planner and president of the Financial Planners Association of the National Capitol Area.

“If this person needs to modify their home for wheelchair accessibility or to put a new roof on the house, a reverse mortgage can create a lump sum or a line of credit to handle these expenses,” he says, “but the bottom line is that if you can afford to do it another way, there are cheaper ways to do this.”

Reverse mortgages are designed for people who want to age in place, staying in their own home as long as possible rather than selling it to generate cash.

The primary advantage of this type of loan is that there are no monthly payments to be made, unlike a traditional home equity loan. Homeowners must continue to pay their property taxes and homeowners insurance and to maintain the residence.

The loan will be repaid when the home is sold or if the homeowners or their heirs can pay it off from another source of income.

“There’s no question that the greatest feature is that there’s no monthly payment,” says Laurence Richardson, branch manager for Wells Fargo Home Mortgage Inc. in the District, “but in addition to that, when the government approved this type of loan, they eliminated the obstacle that many seniors face of credit and income qualifications. The program has created a benefit without the need for qualifying for a mortgage.”

Another obstacle for some consumers could be closing costs and other fees associated with a mortgage, but reverse mortgages allow borrowers to wrap most fees into the loan. Mr. Richardson says that typically the only cost to consumers is $300 for an appraisal fee.

Mr. Richardson points out that there are three basic types of reverse mortgages, including the Housing and Urban Development (HUD) Home Equity Conversion Mortgage (HECM), the Fannie Mae Home Keeper Mortgage and a jumbo reverse mortgage loan program offered by Lehman Bros. Inc.

“Ninety-five percent of the time, consumers choose the HUD loan because it is government-insured, which offers more protection,” Mr. Richardson says. “Consumers can use a reverse mortgage loan to pay off their existing mortgage to create cash flow. The idea is that people can age in place and use the money in the home to afford long-term care or remodel the property to adjust to the needs of the residents.”

Mr. Richardson says reverse mortgages are among the fastest-growing segments of the mortgage industry because of demographics and the rapid appreciation of homes during the past several years.

However, few lenders offer reverse mortgages. Some companies have opted not to provide this kind of loan because of concern that their use could be detrimental to consumers.

“We’re very interested in finding products that work for the aging population, which we realize is a growing segment of the market,” says Cheryl Nolda, executive vice president of marketing for SunTrust Mortgage Inc.

“When reverse mortgages were first introduced, there was a lot of negative publicity and confusion, and a lot of people heard horror stories about elderly people being evicted from their homes by lenders,” she says. “There hasn’t been a big secondary market for these loans, so original lenders cannot sell them to other companies.

“We’re looking into making other products, such as cash-out refinancing, more affordable for elderly people, and we need to get comfortable that products such as reverse mortgages will really work for our consumers,” Ms. Nolda says. “It’s important that people understand what type of loan they are getting.”

Consumers interested in obtaining a reverse mortgage are required to participate in a one-time HUD or AARP counseling session to be certain they completely understand the program.

“I recommend that consumers consult an independent party such as an accountant or financial planner in addition to the counseling session mandated by HUD,” Mr. Rebibo says. “There are some nuances in the mortgage documents that people need to understand. Plus, it’s a good idea to walk through all the options available before choosing a reverse mortgage.”

Loan limits are imposed on reverse mortgages, and the amount of the available benefits is tied to the age of the owners, the home value and interest rates. Borrowers may use the funds generated by the reverse mortgage for any purpose without restrictions. The AARP Web site (www.aarp.org) provides an extensive guide to reverse mortgages, including a calculator that can provide an estimate of how much cash a potential borrower can receive.

For example, according to the calculator, a single owner of a home valued at $550,000 in the District’s 20008 ZIP code, born in December 1940, could borrow a lump sum of $172,490 at 6.04 percent under HUD’s HECM program, or $63,618 under Fannie Mae’s Home Keeper program. A monthly loan advance of $1,002 would be available through the HECM program, or $499 with the Home Keeper loan.

That same homeowner, if born in December 1930, would be able to borrow $201,537 at 6.04 percent or $1,316as a monthly loan benefit under the HECM program or $136,159 or $1,178 as a monthly loan benefit under the Home Keeper program.

The AARP Web site reports that borrowers who owe money on their home because of a mortgage or home equity loan must pay this debt before obtaining a reverse mortgage or take a lump-sum distribution from the reverse mortgage to pay that debt. The Web site says potential borrowers who cannot qualify for enough cash to pay the debt at closing cannot obtain a reverse mortgage.

“The reverse mortgage program definitely rewards people for being older, because the older you are, the greater the percentage of your home’s equity you can borrow,” Mr. Richardson says.

“The interest due on the loan accrues so that the mortgage balance is increasing, but this is likely to be offset by the appreciation of the property, Mr. Richardson says. “Buyers who choose the line-of-credit option for the loan will find that the line of credit grows with the interest rate, so that a $150,000 credit line becomes $157,000 in year two.”

The AARP reverse mortgage calculator explains that if the HECM-approved credit line of $201,537 is unused, the available credit would be $270,225 after five years and $362,324 in 10 years, given the sample interest rate of 6.04 percent, a homeowner born in December 1930 and a home valued at $550,000 in the 20008 ZIP code.

Reverse mortgage loans must be paid off when the owners no longer live in the home, whether because of death or moving into an assisted-living facility or another residence.

“At the end of the loan, the owners or their family must pay off the loan within six months either by refinancing the property to pay the balance or by selling the property,” Mr. Richardson says. “In the worst-case scenario, if the reverse mortgage balance were to rise higher than the property value, the owners would simply sell the property to retire the debt. There would be no liability for the family at the end of the mortgage. The [Federal Housing Administration] insurance kicks in to repay the bank for any remaining amount due.”

The AARP Web site says the debt owed on a reverse mortgage “equals all the loan advances you would receive (including any you used to finance the loan or to pay off prior debt), plus all the interest that is added to your loan balance.”

Once the home is sold, the owners or heirs receive the difference between the sales price and the total owed for the reverse mortgage. Even if the loan balance ever exceeds the value of the home, the total balance owed can never be more than the sales price of the home. The lender has recourse only to the home’s value when the loan is repaid and cannot seek repayment from the owners’ or heirs’ other income or assets, according to AARP.

However, because the loan must be repaid from the refinancing or selling of the property, the owners and their heirs are losing the equity in the home when they are borrowing against it.

“The loss of the value of the home could be important to many families,” Mr. Rebibo says, “but another big problem with reverse mortgages is that they are financially expensive. These loans are tied to a floating interest rate, so as interest rates increase, the cost of the reverse mortgage becomes more and more expensive. The average closing costs for reverse mortgages is about 3 percent, which is also a significant cost which must be paid back through the loan.”

Mr. Rebibo does see reverse mortgages as a viable option for elderly people with few choices.

“Some elderly people are basically starving themselves to keep their home for themselves and as an asset for their heirs,” Mr. Rebibo says. “Reverse mortgages give people the option of improving their standard of living, although it’s at the expense of their children. In some scenarios, it’s the adult children who push their parents to do this, though, because they want their parents to live better now.”

Mr. Rebibo mentions that some borrowers find creative alternatives to benefit from a reverse mortgage without creating a loss of inheritance for the heirs.

“Some people have chosen to take the money out of the home in a reverse mortgage but to also buy life insurance to replace the money lost in equity from the home,” Mr. Rebibo says. “For example, if someone takes out $200,000 in a reverse mortgage, they can use $1,000 of that money to make a single cash payment for life insurance to replace what the kids won’t get from the house.”

Mr. Rebibo points out some potentially negative aspects of reverse mortgages for borrowers.

“There are some nuances to the loans, such as the fact that you have to maintain the home to a certain standard; that could cause problems for some homeowners,” Mr. Rebibo says. “Another difficulty is that the owners cannot move out of the property without the loan coming due. It cannot be turned into a rental property for that income but must be sold or refinanced so that the loan is paid off within a certain time period after the owners move out.”

Mr. Rebibo particularly warns against the danger of people taking money out of their home in a reverse mortgage in order to have cash to invest because it’s possible that the investment could fail.

“The worst scenario would be a 50-year-old kid convincing his parents to take out a reverse mortgage so that he can use the money for himself,” Mr. Rebibo says. “That’s what makes the counseling aspect of this so important. However, if the parents themselves are having financial problems, there’s no reason not to at least look at the option of a reverse mortgage.”

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