Have you noticed the recent rash of advertisements for reverse mortgages?
Our email and snail mail frequently have flashy brochures promoting reverse mortgages as the best option for "older" homeowners. The idea of being able to use your home equity for current living expenses (wants and needs), while not making any mortgage payments, sounds just too good to be true.
Here are three areas to think about if you are contemplating a reverse mortgage:
The costs
You can get a handle on this by going to the HUD.gov website and trying out the reverse mortgage calculator under Home Equity Conversion Mortgages for Seniors. This calculator allows you to put in a variety of ages and mortgage specifics to determine costs and benefits. The variables include upfront cash, estimate of any necessary home repairs and desired line-of-credit.
We did this and here's what we discovered. We put in fictional ages, loan and mortgage amounts, and found it hard to find any combination of current home value, mortgage pay off and funds to the homeowner that made financial sense. The cost of the reverse mortgage was typically about $20,000 in upfront costs. The only benefit is not paying the monthly mortgage payment. What an expensive way to avoid making a mortgage payment!
Part of the cost included mortgage insurance premiums -- an annual 1.25 percent mortgage insurance premium in case of default, plus a one-time premium of .5 or 2.5 percent, depending on amount of monies received. HUD insures and backs the loans, so risks shift to taxpayers and the lenders gets their funds back in the case of default.
The reverse mortgage fixed interest rate appeared slightly higher than interest on a normal mortgage loan. The monthly adjustable rate for the reverse mortgage had a sobering lifetime cap of 12.692 percent. This interest is compounded and calculated on the continually growing unpaid interest and principal balance during the life of the reverse mortgage (until default or death). The younger you are when you take out a reverse mortgage the more the interest will compound.
Other requirements for a reverse mortgage are that the homeowner must pay taxes, homeowner's insurance, home maintenance costs, and continue to maintain the home as a primary residence for more than six months of the year.
If a homeowner fails in any of the above, the loan is considered in technical default. In 2012, according to AARP, 1 in 10 outstanding loans were in technical default.
The risks
The first is an unknown: When will the loan come due? Unlike a typical loan, you make payment over a specific time and work the principal balance down to zero. A reverse mortgage due date depends on the great unknown -- your death or default. Die too soon, and your death may trigger your spouse's unfortunate eviction. The qualifying age for a reverse mortgage is 62. Optimistically, most of us would hope to live to a ripe old age, but that is rarely the case.
In 2009, Alaska's population was 692,314. The 65 to 69 age group were 2.97 percent of the population, 70 to 74 were 1.81 percent; 75 to 79 were 1.22 percent; 80 to 84 were .83 percent; 85 to 89 were .47 percent and 90 plus were .25 percent.
Not fulfilling the other requirements mentioned above could also cause the reverse loan to be in technical default.
Another risk is the family's financial strength when the loan comes due (death or default). Any surviving spouse who is not on the loan has a limited amount of time to make arrangement to pay off the remaining mortgage -- especially if the debt has grown through compounded interest -- before foreclosure.
Heirs do have options. First, they have a grace period of up to six months to arrange financing to pay off the balance due. Second is the ability to pay 95 percent of the current fair market value of the property (based on an appraisal). The 95 percent rule could be beneficial if the market value is less than the balance due and the family can afford the lesser amount.
However, lenders have been accused of not telling heirs of these options and simply going straight to the foreclosure process to reclaim their funds. It was unclear what happens to the excess proceeds if the property sells for more than the amount due.
The rewards
We just couldn't find any.
Here are some reasons why reverse mortgages just don't make sense:
• Many homeowners have taken advantage of low interest rates of the past years and have more manageable mortgage payments.
• Other, more financially responsible options are available. While a home equity line-of-credit may help in the short term, a financially sound option may be downsizing or renting.
• Reverse mortgage advertisements create the impression of being risk-free and using your home equity to fund your retirement years. As life expectancy continues to grow, the compounding interest could eat away at any potential proceeds if you default or die.
So if you are thinking of a reverse mortgage, read the fine print. Make certain both spouses are on the mortgage to protect the other spouse. Make certain family members living with you know what will happen in the event of a death or default. Finally, check all other options. You know the old saying -- if it sounds to good to be true, there is likely something wrong with it.
Barbara and Clair Ramsey are local associate brokers specializing in residential real estate. Their column appears every month in the Alaska Dispatch News. Their email address info@ramseyteam.com.
The views expressed here are the writer's own and are not necessarily endorsed by Alaska Dispatch News, which welcomes a broad range of viewpoints. To submit a piece for consideration, email commentary(at)alaskadispatch.com.