A few days ago Jim called me in despair. He and his wife are in their late 70’s. They are still working but finding it more and more difficult to make ends meet. Jim heard about reverse mortgages and wanted to talk it over. He asked me if it would be better to take a reverse mortgage or sell their home and buy something smaller.
After we spoke for a while, it was abundantly clear to me which direction they should go. But before we jump there, let me give you a little background.
How Does A Reverse Mortgage Work
If you are over 62, you can borrow against the equity in your home with certain lenders. But rather than make payments to your lender, the lender pays you. That’s how you get your money. You either take cash up front or your lender makes payments to you over a period of years. Regardless of how you take your money, you don’t have to pay the money back until you either pass away or are moved to a long-term care facility.
Neal’s Notes: Since I published this, the laws pertaining to reverse mortgages have changed. Please read about those changes before proceeding.
On its face, it sounds pretty good. You get to stay in your home and you get a healthy bump in your income or a big one-time check in your mailbox. What’s not to like about that?
Well, those are attractive benefits, but there are also some risks to having a reverse mortgages that you have to consider before you sign the dotted line.
First, if you go this route, you have to make sure the contract allows you or your spouse to stay in your house until you BOTH pass away or move to a long-term care facility. The last thing you want is the healthy spouse to be forced out after one of the spouses passes or becomes ill.
Also, it’s important to keep in mind that the home owners are still responsible for property taxes and maintenance. If they run into more financial difficulties down the line and fail to keep the place up, they could lose the house quickly.
This is to say nothing of the notoriously high fees lenders charge just to set these mortgages up. It can easily cost 5% to 7% just to set one of these bad boys up.
And there is a greater cost than all these combined because a reverse mortgage doesn’t always address the core problem. What is the core problem? In this case, Jim and Ann can’t afford to live in the home they currently reside in. They are living beyond their means and the reverse mortgage doesn’t completely solve this problem.
If they execute a reverse mortgage, they will get rid of their mortgage payment and create a little investment income. That’s true. But their housing costs will still be too high. The home they currently occupy has sky-high maintenance and homeowners fees. And those costs are driving them to the poor house in the fast lane. Your mortgage is only part of the real costs of home ownership. Jim and Ann aren’t looking at the total cost of owning that home.
It costs a lot more to own a house than simply pay the mortgage, taxes and insurance.
The idea of selling and using the equity to buy a smaller place is a far better choice for this couple. By doing so, they’ll enjoy the following benefits:
- Save the costs of setting up a reverse mortgage.
- Reduce their housing costs by slashing their taxes, insurance and maintenance costs.
- Maintain a home for the surviving spouse no matter what happens to either of them.
- Gives them the opportunity to sell later on and rent. That provides even more capital should they need it.
If you are considering a reverse mortgage, you have to be completely objective. If you need a reverse mortgage, ask yourself why. This product might be right for some people. But if it just helps you stay in a home you can’t afford a little longer, you may not be doing yourself any favors by going this way.
Have you looked into reverse mortgages? What is your sense of it?