For homeowners 62 and over, a reverse mortgage could help avoid foreclosure. But it's not always the best option.
In certain circumstances, a reverse mortgage might be a good way to prevent a foreclosure. But not typically. Reverse mortgages themselves are often foreclosed.
Read on to learn more about how reverse mortgages work, how obtaining a reverse mortgage can stop a foreclosure, when a reverse mortgage can be foreclosed, and whether or not a reverse mortgage might be appropriate in your situation.
How Reverse Mortgages Work
A reverse mortgage is different from a traditional mortgage in that it does not require the borrower to make monthly payments to the lender to repay the loan. Instead, loan proceeds are paid out to the borrower as a monthly payment, line of credit, or a lump sum (subject to some limitations). You can also get a combination of options. The amount of the loan is based on the equity of the house. The most readily available reverse mortgage is FHA's Home Equity Conversion Mortgage (HECM).
Reverse mortgages are only available for homeowners who are:
- 62 years of age or older
- occupy the property as a principal residence, and
- own the home outright or have significant equity in the home.
The reverse mortgage loan generally becomes due and payable when the borrower:
- sells the property
- permanently moves out (for example, to a nursing home for more than 12 months)
- does not meet the obligations of the mortgage (such as paying taxes and insurance), or
- dies.
When one of these events happen, the loan has to be repaid or the lender will foreclose.
Using a Reverse Mortgage to Stop a Foreclosure
If you're struggling to make mortgage payments and are facing foreclosure, taking out a reverse mortgage to payoff the existing mortgage debt might be one way to prevent the loss of your house. Once the lump sum is fully disbursed to the mortgage holder, this will eliminate monthly payments and the homeowner is free to remain in the home.
Example. Mrs. Smith is an 85-year-old widow who previously refinanced her home with a subprime loan. Mrs. Smith is having trouble keeping up with the mortgage payments due to a very high interest rate. Mrs. Smith attempted to negotiate a loan modification with her lender, but was not able to achieve an affordable monthly payment. She then decided to look into a reverse mortgage. By getting a reverse mortgage, Mrs. Smith is able to use the proceeds from the reverse mortgage to satisfy the prior mortgage. As a result, Mrs. Smith is able to stay in her home.
Downsides to Using a Reverse Mortgage to Stop a Foreclosure
One downside to reverse mortgages is that you will lose some or all of the equity you have built up over the years. If you plan to move out of your home at some point, you might not have any equity to cash in. Or if you move out for over 12 months, the lender can call the loan due. Another downside is that you might also not have any equity to leave to your heirs. Also, a reverse mortgage could also affect your eligibility for Medicaid.
In addition, reverse mortgage borrowers remain responsible for paying:
- property taxes
- hazard insurance premiums
- homeowners' association fees
- mortgage insurance, and
- home maintenance costs.
In some cases, homeowners end up defaulting on the loan when they can’t afford the taxes, insurance, and upkeep, which then leads to foreclosure. In fact, an increasing number of reverse mortgage defaults caused the FHA to revamp its HECM reverse mortgage program a few years ago. (Learn more in Reverse Mortgages: Restrictions and Requirement.)
Consider Other Options
A reverse mortgage is only one option for distressed homeowners. It is highly recommend that you proceed cautiously if you are thinking about taking out a reverse mortgage. Consider talking to a financial planner or elder-law attorney before taking out this type of loan.
If you are having trouble making your mortgage payments, you are encouraged to contact your lender or loan servicer directly to inquire about other foreclosure prevention options that might be available.
How to Get More Information on Reverse Mortgages
For more information on reverse mortgages, visit the AARP’s reverse mortgage webpage at www.aarp.org/revmort, the Consumer Financial Protection Bureau website. Search for "reverse mortgage."
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