September 22, 2008, Revised January 27, 2010, July 29, 2012
Because some fees on a reverse mortgage (RM) are a fixed amount, small
RMs are quite costly. Nonetheless, they may be the best option available
in some circumstances. Here is an example:
"My grandfather of 96 is in poor health but wants to stay in his house.
However, he requires constant care, which the family cannot afford. We
need to find about $1,000 a month. His townhouse is worth only $52,000
and it has a mortgage balance of $12,000. Would a reverse mortgage on
his house be an answer for us? Would we have to pay off the reverse
mortgage when he dies?"
On reading this letter, I was skeptical that an RM would be an answer,
but after crunching the numbers and considering the alternatives, I
changed my mind.
On a house worth $52,000, a 95-year old can get a reverse mortgage of
about $46,000, from which must be deducted about $6,000 in upfront fees,
leaving $40,000 that can be drawn on. However, the existing $12,000 loan
balance must be repaid out of this, leaving only about $28,000 available
as a credit line to be drawn on as needed. Nonetheless, the RM will
provide $1,000 a month for at least 28 months, which is exactly what the
family needs.
There is no repayment obligation on a RM. If the borrower dies within
the 28-month period, the lender will sell the house, repay the balance
of the RM, and remit anything left over to the borrower’s estate. If the
borrower is still alive when the RM credit line has been exhausted, he
can continue to live in the house but the family will have to find
another way to pay for his care.
"I am 72 yrs old, my mortgage is paid off, I intend to live with my
children in a year or two, at which point I will sell my house. In the
meantime, I have some repairs to make and some credit card balances I
would like to pay off. I am thinking of taking out a reverse mortgage,
then paying it off when I sell. Good idea or not?"
Bad idea. A reverse mortgage is not suitable for raising funds for
a short period, because the upfront cost is so high. Read
Use a Reverse
Mortgage to Repair the House?
The difference between the two cases is that in the first case the
borrower will remain in the house and there is no other fund source that
will permit this. In the second case, the borrower intends to pay off
the loan when he sells in just a few years, which makes preservation of
equity a major concern. The HELOC uses less equity than the HECM.
