If you take out a reverse mortgage, you can leave your home to your heirs when you die. But you'll leave less of an asset to them because your heirs will need to repay the reverse mortgage. Otherwise, the lender will likely foreclose.
Once you learn more about this kind of loan and the issues your heirs might face if they want to keep the property, you might think twice about getting one.
A "reverse" mortgage is a loan in which older homeowners convert some of their home's equity into cash. The most popular type of reverse mortgage is the FHA-insured Home Equity Conversion Mortgage (HECM). The insurance protects the lender, not the borrower.
With a HECM, the loan typically has to be repaid when the borrower dies, or another specific event happens, such as the borrower moves to another home or leaves due to health reasons for 12 consecutive months or longer.
When a person with a reverse mortgage dies, the heirs can inherit the house. But they won't receive title to the property free and clear because the property is subject to the reverse mortgage lien.
So, say the homeowner dies after receiving $150,000 of reverse mortgage funds. The heirs inherit the home subject to the $150,000 debt, plus any fees and interest that have accrued and will continue to accrue until the debt is paid off.
Under the terms of a HECM, those who inherit a home subject to a reverse mortgage get four options.
According to a 2019 article published in USA Today, heirs who want to pay off a reverse mortgage and keep the home often face months of red tape and frustration when dealing with the loan servicer.
Shoddy loan servicing practices can hinder what should be routine paperwork, debt calculations, and communications with borrowers or heirs.
As the article notes, the daughter of one reverse mortgage borrower sent in a form indicating she wanted to purchase the property and was approved for traditional financing. But she still received a notice of default, the first step in a California nonjudicial foreclosure.
The servicer also designated the home as vacant turned off the water in the name of property preservation, and scheduled a foreclosure sale. This situation isn't uncommon.
The U.S. Department of Housing and Urban Development (HUD), the regulator of HECMs, has guidelines that say servicers of these loans should inform survivors and heirs of their options and resolve the loan within six months of a death.
So, generally, under the guidelines, heirs should have six months to satisfy the debt. If they're selling the property and it's still on the market after six months, or they're still actively seeking financing, heirs can contact the servicer and request a 90-day extension, subject to approval by HUD. One more 90-day extension can be requested, again with HUD's approval. But the guidelines don't prevent the servicer from pursuing a foreclosure during this time. In fact, HUD's policies require servicers to initiate foreclosure within six months of a default.
While you face delays or roadblocks due to an issue with the property's title, an impending foreclosure, or a lack of information from the servicer, you'll have to pay for the home's upkeep, taxes, and insurance. Interest and fees will continue to accrue on the debt while you try to work out any of the above options.
Also, heirs have noted that servicers often won't negotiate or communicate during the workout process, and homes are foreclosed in many cases.
If you have a reverse mortgage and want to leave your home to your children, communicate with them about the loan and their repayment options. Giving them details about the loan, including the loan balance, interest rate, and what will happen when you die, will help them decide what to do with the house. You should also inform your heirs about their options, such as repaying the loan balance or selling the property to pay off the debt.
You might also consider talking to a professional about creating an estate plan. For example, you might want to get a life insurance policy sufficient to pay off the reverse mortgage balance when you die.
Reverse mortgages are complicated and often not the best option for older homeowners seeking access to extra cash. Before taking out a reverse mortgage and tapping into your home equity, you should explore all available options. For instance, you might qualify for a state or local program to lower your bills or consider downsizing to a more affordable home. You can learn more about reverse mortgages and other options for older homeowners at AARP's website at www.aarp.org/revmort.
Even though you'll have to complete a counseling session with a HUD-approved counselor to get a HECM, it's also highly recommended that you consider talking to a financial planner, an estate planning attorney, or a consumer protection lawyer before taking out this kind of loan.
If you inherited a home subject to a reverse mortgage and the lender has started a foreclosure (or you're having trouble dealing with the loan servicer), talk to a foreclosure lawyer to learn about your rights and options.