A reverse mortgage is a special type of home loan designed to enable older homeowners, usually 62 years of age and older, to access part of the equity in their homes. It's called a "reverse mortgage" because, instead of you paying the lender, the lender pays you. These payments can be a lump sum, a monthly advance, a line of credit, or a combination.
As far as taxes go, reverse mortgages have pros and cons.
The three basic types of reverse mortgages are:
When you take out a reverse mortgage, the title to your home remains with you, and you continue to live in the home. You must continue to pay for repairs, property insurance, and taxes. When you move out, sell the home, or die (or the last surviving borrower dies), you or your estate must repay the loan.
The loan balance will include the amount paid to you in cash, plus the interest and fees added to the loan balance each month. So, your total debt increases as the loan funds are paid to you and interest on the loan accrues.
Usually, when the loan become due, you or your heirs will have to sell the home and use the proceeds to pay it off. You or your heirs can keep any money left over. If you or your heirs want to retain ownership of the home, you (or your heirs) usually must repay the loan.
On the plus side, reverse mortgages are considered loan advances to you, not income you earned. So, the payments you receive aren't taxable. Moreover, they usually don't affect your Social Security or Medicare benefits.
On the downside, any interest accrued on a reverse mortgage is considered interest on home equity debt and usually isn't deductible. You can deduct reverse mortgage interest only if you used the loan to buy, build, or substantially improve your home. To learn more about deducting mortgage interest, see IRS Publication 936, Home Mortgage Interest Deduction.
A reverse mortgage might or might not be your best option. Here are some factors to keep in mind:
Do your homework before taking out a reverse mortgage. For more information about reverse mortgages, visit the Consumer Financial Protection Bureau website (search for "reverse mortgage") and review AARP's useful articles on reverse mortgages.