Reverse Mortgages: A Guide to How They Work
What You Should Know
- A reverse mortgage is for borrowers 62 years of age or older that have built-up home equity.
- It allows you to receive lump-sum or monthly payments that you can use for any purpose.
- You won’t need to make any mortgage payments back to the lender until you move out, sell the home, or die.
- Interest accumulates and is added to your loan balance, which means that your home equity will decrease over time.
- The most common type of reverse mortgage are federally-insured HECMs with no minimum credit score or income requirement.
What Is a Reverse Mortgage?
A reverse mortgage allows you to borrow money without needing to make any monthly mortgage payments. Instead of having to pay your bank or mortgage lender every month, they will pay you money based on your home's equity. This allows homeowners to receive a steady stream of income which can be very useful during retirement. Since you won't be making mortgage payments, the mortgage interest that would normally be paid will be added onto your loan balance. This means that your home equity will go down over time as your debt increases.
Most reverse mortgages are only available to borrowers that are 62 years of age and older, however, there are some lenders that allow homeowners as young as age 55 to borrow a reverse mortgage in certain states.
Reverse Mortgage Requirements
- All borrowers on the home’s title must be at least 62 years old
- The home must be the borrower’s primary residence
- You must own at least 50% of your house’s equity. If your mortgage is not fully paid off yet, the reverse mortgage will be used to pay the outstanding mortgage first
- Homeownership costs are still your responsibility. This sometimes means that you must agree to use some of the funds from the reverse mortgage to pay for things such as property taxes, homeowners insurance, maintenance, and repairs
- Some types of reverse mortgages (HECMs) require you to meet with an approved counselor from the Department of Housing and Urban Development before applying
How Does a Reverse Mortgage Work?
A reverse mortgage works by letting you borrow your home equity without needing to make any payments. This allows homeowners who are at least 62 years old and want to supplement their income during retirement to unlock their home equity without having to sell their home. You can receive a lump-sum payment or schedule to receive recurring payments which you will receive as tax-free cash. Since the cash that you receive is money that you are borrowing, it isn't considered to be taxable income, and so a reverse mortgage will not affect your Social Security or Medicare benefits.
With a reverse mortgage, you can borrow up to your principal loan limit. This limit is a percentage of your home's value that is determined by your age and current reverse mortgage rates. Generally, the older you are, the more you can borrow with a reverse mortgage. Lower reverse mortgage interest rates will also allow you to borrow more money with a higher principal limit. In order to qualify for a reverse mortgage, the borrower must own the house outright and have at least 50% equity in their home.
However, a reverse mortgage isn't free money. That's because the money that you receive is money that you're borrowing against the value of your home. The amount that you borrow will eventually need to be paid back, either by you or your heirs. The balance of the accumulated money borrowed, along with interest and other fees charged, will all become due when the borrowers of the reverse mortgage either die, move away, or sell the house. If the home is sold, some or all of the home sale’s proceeds will go to the lender to repay the reverse mortgage.
Why do they call it a reverse mortgage?
The difference between a mortgage and a reverse mortgage has to do with the direction of payments. With a mortgage, the borrower makes payments to the lender. With a reverse mortgage, the lender makes payments to the borrower. This is the opposite, or “reverse”, of a regular mortgage.
This affects the characteristics of the mortgage. With a regular mortgage, your loan balance decreases as you make payments, meaning that your home equity increases. With a reverse mortgage, your loan balance increases as you receive payments, meaning that your home equity decreases. Reverse mortgage interest will also increase your loan balance. In other words, the more you borrow with a reverse mortgage, the less home equity you will have.
Can I owe more than my home is worth with a reverse mortgage?
Most reverse mortgages are non-recourse loans, which means that you won’t owe more than your home is worth. You can still owe more than your home is worth, such as if your home's value drops significantly, but you won't have to pay the difference between the value of your home and the balance of your reverse mortgage. Instead, mortgage insurance will cover any remaining amount left over after the sale of your home.
Types of Reverse Mortgages
The three main types of reverse mortgages are Home Equity Conversion Mortgages (HECM), Proprietary Reverse Mortgages, and Single-Purpose Reverse Mortgages.
How Much Can I Borrow With a Reverse Mortgage?
You can use this Reverse Mortgage Calculator to estimate the amount you can get with this mortgage.The amount you can borrow with a reverse mortgage depends on several factors, such as:
- Age of the youngest borrower
- Home’s appraised value
- Current Interest rates
- Type of Reverse mortgage
- Amount of any existing mortgage or large debt
- Payment plan chosen
The maximum claim amount is the lesser of $970,800 for 2022 or your home value. This means that $970,800 is the absolute maximum that you can borrow with an FHA-insured reverse mortgage. Having a home value greater than $1 million will not allow you to borrow more than the maximum limit of $970,800. Homeowners of high-value homes that want to borrow a greater amount will be able to do so with a proprietary reverse mortgage from a private lender.
The “maximum claim amount” that mortgage insurance premium is based on is the amount that the lender can claim from mortgage insurance should the lender default on the reverse mortgage.
The amount that a borrower can receive as upfront cash is determined on whether they choose to receive the funds as a lump sum payment, with monthly payments, or as a line of credit. In the case of a lump sum payment, 40% of the principal limit would not be available for use and would be categorized as ‘unusable funds’. While this is not the case with monthly payments and a line of credit, there are still limitations on how much you can borrow upfront in the first year. The maximum amount one can borrow in their first year is 60% of the initial principal limit (borrowing limit).
AAG Reverse Mortgage Minimum Age Requirement
| State | Minimum Age Requirement |
|---|---|
| Utah North Carolina Texas | 62 |
| New York Washington | 60 |
| All Other States | 55 |
Source: AAG
Reverse Mortgage Funding Reverse Mortgages
Reverse Mortgage Funding (RMF) is one of the largest HECM lenders in the US. With RMF's proprietary Equity Elite reverse mortgage, you can be eligible with a minimum age requirement of 55 in some states. Similar to AAG reverse mortgages, you can borrow up to $4 million, avoid mortgage insurance premiums, and even receive a lender credit to cover most closing costs of the reverse mortgage. However, RMF notes that there is a non-refundable counseling fee of $125 that the lender credit does not cover.
States with a minimum age requirement of 55 years for RMF reverse mortgages include:
- California
- Oregon
- Nevada
- Arizona
- Florida
- Pennsylvania
- Rhode Island
- Connecticut
- Ohio
- Michigan
- Montana
- Colorado
- New Mexico
- Illinois
- Hawaii
- Washington D.C.
- Virginia
- South Carolina
- Georgia
Single-Purpose Reverse Mortgage
A single-purpose reverse mortgage can be offered by non-profit organizations as well as local and state government agencies. They can only be used for a specific purpose, unlike HECMs which can be used for any purpose. With a single-purpose reverse mortgage, you must use the funds for specific needs. This is usually the least expensive option out of the three, as far as interest and fees go. They’re also easier to qualify for. Some common uses of single-purpose reverse mortgages include:
- Paying property taxes
- Home improvements and repairs
- Insurance premiums
Reverse Mortgage Proceeds and Payouts
Payouts from a reverse mortgage are also called distributions. HECMs offer a number of different ways in which you can receive your funds.
Fixed-Rate Payment Plan
- Lump-sum - You receive all the available funds together as a lump sum and pay a fixed interest rate (usually higher than the adjustable-rate) on it. This option is mostly used by individuals who are looking to pay off an existing mortgage or large debt.
Adjustable-Rate Payment Plans
The adjustable-rate payment plans offer interest rates that consist of an index plus a margin decided by the lender. The adjustable interest rate can adjust yearly or monthly based on a benchmark interest rate. There are 5 different options available to you if you want to have an adjustable interest rate.
- Equal monthly payments as long as the borrower lives in the house - This can be the right choice for you if you plan to live in the house for your whole life or a long period of time. The monthly payments are calculated assuming that you will live until the age of 100, however, the payments will continue even if you live longer.
- Equal monthly payments for a fixed period of time (Reverse Annuity Mortgage) - If you don’t plan to live in the house for a long period of time and have an idea of when you will move out, getting monthly payments for a set number of months can be more suitable for you.
- Line of credit - With a line of credit, you get to pay interest on only the amount borrowed. While this option provides a whole lot more flexibility to someone in accessing their equity as they wish to, it also presents the risk of using up too much too fast. The benefit of a line of credit is that your borrowing limit will grow automatically every year based on your interest rate and annual MIP. This means that you can borrow more money over time without refinancing.
- Equal monthly payments for as long as the borrower lives in the house + a line of credit - This option gives the flexibility of not being restricted to only your monthly payment if you experience larger expenses during certain months. How much to allocate to the payments and line of credit is up to you.
- Equal monthly payments for a fixed period of time + a line of credit - You will be able to get higher monthly payments than with the life-long plans and you can combine these payments with access to a line of credit.
Reverse Mortgages Pros and Cons
To assess if a reverse mortgage is the right decision for you, it is important to be aware of the benefits and drawbacks that reverse mortgages present.
Pros
- A good way to have access to cash and meet basic living needs
- You keep the house’s title and can continue living there
- You do not need to pay for what you borrow as long as you continue to live in the house
- Even though your credit history will be reviewed in a financial assessment, there are no credit score or income requirements
- Non-borrowing spouses can continue to live in the property upon the borrower’s death
- Neither you nor your heirs are liable for any loan amount that exceeds the value of the house
- There are options available to heirs who want to keep the house, such as purchasing the house at the lower of 95% of the house’s appraised value or the loan balance. They can also choose to refinance the loan.
Cons
- A large portion of the equity goes to expenses such as interest fees, upfront, monthly insurance premiums, and closing costs, which take up from what you can borrow
- You will still have to continue paying for homeownership costs such as property taxes, maintenance, and homeowner’s insurance
- You will probably not be able to pass down the house to your heirs
- You might outlive your loan’s proceeds
- The loan balance might come due for different reasons, such as if you don’t live in the house for more than 6 months or if you unable to pay homeownership costs, such as property taxes
- If you pass away and you live with a roommate, friend, or relative, they won’t be able to continue living in the house
Reverse Mortgage Tax Implications
The money you borrow from a reverse mortgage is tax-free, that is it won’t be counted as income, but rather as an advanced loan. However, the interest charged on the reverse mortgage is not tax-deductible. Since the interest is not being paid, but rather added to your outstanding loan balance, you won’t be able to claim any deductions throughout the years. Only when you repay the loan and all of its interest will you be permitted to write off the reverse mortgage’s interest as an expense when filing your income taxes.
Reverse Mortgage Alternatives
There are a few options for you to choose from other than a reverse mortgage:
- HELOC: A home equity line of credit (HELOC) allows you to borrow funds based on home equity. It works like a credit card where funds can be borrowed, repaid, and borrowed again. Most lenders allow you to borrow up to 80% of the home value. You can determine your monthly payment using our HELOC payment calculator.
- Home Equity Loan: A home equity loan works similarly to a HELOC where funds are borrowed based on the equity owned in the home. However, instead of it being a credit facility, you receive the funds as a lump-sum amount at the start of the loan. Closing costs are lower for home equity loans than reverse mortgages.
- Mortgage Refinancing: Refinancing a mortgage is the process of getting a new mortgage with better terms and paying off your existing mortgage balance. You can also borrow additional funds by taking out a cash-out refinance. Be sure to check out if refinance closing costs are not beyond the budget as it can be 3% - 5% of the loan balance.
- Downsizing: Instead of borrowing funds, you can choose to sell your existing home and buy a new smaller home that will have fewer maintenance costs. The difference in funds can be used for other expenses. Bridge loans can be used if you want to buy and sell a house simultaneously.
Where Are Reverse Mortgages Most Popular?
The city with the highest number of reverse mortgages is Denver, Colorado, with 1,203 reverse mortgages originated in 2021. That makes up 7.9% of all reverse mortgages in 2021. Runner-up is Phoenix, Arizona, with 1,148 reverse mortgages for 7.6% of the total, followed by Santa Ana, California with 1,035 reverse mortgages for 6.8% of the total.
The state with the highest number of reverse mortgages is California. Six out of the top ten cities for reverse mortgages are in the State of California, with these six cities making up almost 25% of the nation’s reverse mortgages.
One outsized city for reverse mortgages is Boise, Idaho. Despite having a population of just 235,684 as of 2020 according to the US Census, the city of Boise was home to 413 new reverse mortgages in 2021. That’s 2.7% of the national total and is more than other major U.S. cities. For example, Boston had 153 reverse mortgages, New York City had 212 reverse mortgages, Chicago had 110 reverse mortgages, and Dallas had 240 reverse mortgages in 2021.
| City | Number of New HECM Reverse Mortgages | % of National Total |
|---|---|---|
| Denver | 1,203 | 7.9% |
| Phoenix | 1,148 | 7.6% |
| Santa Ana | 1,035 | 6.8% |
| Los Angeles | 948 | 6.2% |
| Salt Lake City | 827 | 5.4% |
| Seattle | 654 | 4.3% |
| Sacramento | 599 | 3.9% |
| San Francisco | 558 | 3.7% |
| Portland | 478 | 3.1% |
| San Diego | 444 | 2.9% |
| Total | 15,200 | 100% |
Source: HECM Endorsement Summary Reports
Reverse Mortgage Borrower Characteristics
The latest year that the U.S. Department of Housing and Urban Development collected information on HECM borrower characteristics was in 2012. Among the statistics seen in the report is the rapid growth of the reverse mortgage industry in the run up to the 2007-2008 financial crisis.
From 2003 to 2012, the percentage of reverse mortgages being insured increased from 29% of reverse mortgages to 99% of reverse mortgages being insured by the federal government.
Number of Insured vs. Uninsured Reverse Mortgages
| Year | Total Reverse Mortgages | Insured Reverse Mortgages | % of Reverse Mortgages Insured |
|---|---|---|---|
| 2003 | 18,084 | 5,210 | 29% |
| 2004 | 37,790 | 15,250 | 40% |
| 2005 | 43,082 | 24,748 | 57% |
| 2006 | 76,280 | 55,373 | 73% |
| 2007 | 107,367 | 88,798 | 83% |
| 2008 | 112,013 | 98,672 | 88% |
| 2009 | 114,639 | 103,065 | 90% |
| 2010 | 78,758 | 72,784 | 92% |
| 2011 | 73,093 | 70,223 | 96% |
| 2012 | 54,676 | 53,928 | 99% |
Source: HECM Characteristics Report last updated in 2012
Historically, single female borrowers made up a larger proportion of reverse mortgage borrowers compared to single male borrowers. The average borrower age had already been steadily decreasing from an average borrower age of 74 years old in 2003 to 72 years old in 2012.
Reverse Mortgages Borrowers: Average Age and Gender
| Year | Average Borrower Age | Single Female (% of Borrowers) | Single Male (% of Borrowers) | Multiple Borrowers (% of Borrowers) |
|---|---|---|---|---|
| 2003 | 74.3 | 48.6% | 14.2% | 37.2% |
| 2004 | 74.3 | 48.6% | 15.2% | 36.2% |
| 2005 | 73.8 | 46.0% | 16.1% | 37.9% |
| 2006 | 73.8 | 44.5% | 16.7% | 38.8% |
| 2007 | 73.5 | 44.6% | 18.2% | 37.2% |
| 2008 | 73.1 | 43.8% | 20.6% | 35.6% |
| 2009 | 72.9 | 41.2% | 21.8% | 37.0% |
| 2010 | 72.9 | 42.6% | 21.8% | 35.6% |
| 2011 | 72.2 | 41.1% | 21.3% | 37.7% |
| 2012 | 71.9 | 40.1% | 21.7% | 38.2% |
Source: HECM Characteristics Report last updated in 2012
When looking at historical reverse mortgage balances, a clear trend is that the average reverse mortgage balance was higher than the average initial principal limit leading up to the 2008 housing crisis. This means that reverse mortgage borrowers owed more on their reverse mortgage than the maximum that they could take out. After 2008, mortgage balances remained lower than initial principal limits.
Historical Reverse Mortgages: Average Rates, Limits, and Balances
| Year | Average Interest Rate | Average Property Value | Average Maximum Claim Amount | Average Initial Principal Limit | Average Reverse Mortgage Balance |
|---|---|---|---|---|---|
| 2003 | 5.4% | $197,553 | $165,922 | $131,286 | $137,358 |
| 2004 | 5.8% | $219,435 | $182,199 | $133,905 | $140,858 |
| 2005 | 5.7% | $254,864 | $206,041 | $144,386 | $159,580 |
| 2006 | 6.0% | $289,660 | $235,616 | $158,892 | $169,712 |
| 2007 | 6.0% | $261,939 | $229,332 | $155,650 | $155,839 |
| 2008 | 5.4% | $239,337 | $216,407 | $153,719 | $145,432 |
| 2009 | 5.5% | $283,304 | $263,095 | $183,960 | $174,524 |
| 2010 | 5.7% | $279,880 | $266,314 | $175,492 | $175,324 |
| 2011 | 5.1% | $261,454 | $249,103 | $161,139 | $149,545 |
| 2012 | 4.9% | $251,953 | $239,822 | $158,228 | $131,986 |
Source: HECM Characteristics Report last updated in 2012