What is a Reverse Mortgage?
When you receive a reverse mortgage loan, you are able to use part of the equity in the home. You will not have to repay your loan unless you leave your home. This type of loan is often referred to as a federally insured loan. HECM or Home Equity Conversion Mortgage loans are issued the most frequently. This loan is insured by the United States federal government. We have seen a lot of companies offering HECM loans, but the only lenders available are approved by the FHA. A reverse mortgage is a good option if you are age 62 or above, own your home, or have a lot of equity.
Who Qualifies for a Reverse Mortgage?
To apply for a reverse mortgage, you must be a minimum of 62 years of age. Even if your spouse has not reached this age, you may still qualify provided other criteria are met. This includes:
- If you have a mortgage on your home, your must use your reverse mortgage to pay it off.
- All of your mandatory costs must remain current including homeowner’s insurance, property tax and association dues.
- You property must be maintained, and remain in good condition.
- If your home is not owned outright, you must have a single primary lien enabling you to borrow money.
- Your home must be a single-family, multi-unit with a maximum of four units, townhouse, condominium, or a manufactured home constructed after June of 1976.
- Your home must be your primary residence.
- You are required to take a consumer information meeting with a counselor approved by HUD.
Reverse Mortgage Interest Rates
The interest rates offered for a reverse mortgage are charged for the funds received from your loan. Your charges are calculated on a daily basis, then added to your balance each month. All of the charges are listed on your monthly statement. The reason a reverse mortgage is different from a traditional loan is all of your interest payments are deferred until the completion of your loan. There are no up-front, monthly, or out-of-pocket expenses. As opposed to a traditional loan, you are not required to make any payments.
All of your interest and loan payments are deferred until your loan matures. In order for your reverse mortgage to mature, you would have to sell your home, move out, or everyone listed on your reverse mortgage passes away. If you do not comply with the terms of your loan, or do not pay your homeowner’s insurance of property tax, we want you to be aware your loan will go into default.
There are two types of interest rates. The first is fixed interest. This rate is kept stable by government agencies and investors. The specifics of your loan will determine your interest rate, but each month has an average fixed-rate listed according to the HECM. The second rate is called a variable interest. This is different than the fixed-rate, and consists of two parts.
The first part is called the index. We define an index as a standard rate dependent on the current interest rates of the market. The lender does not control this rate. If the index rises or falls, your loan rate will change accordingly. We recommend searching online, or consulting with a trusted source to find the most currently listed rates. When one bank borrows money from another, the rate used is the London Interbank Offered Rate referred to as the LIBOR. All variable rate loans are based on this index. The rates most frequently used are the one year and one month LIBOR.
The second part is called the margin. This is the percentage of interest your lender adds to the index. This is not an adjustable rate. This means your margin will not change during the term of your loan even if the index changes.
The Different Types of Reverse Mortgages
We recommend considering different types of reverse mortgages to ensure you receive the best possible loan for your specific needs. The three available options are explained below.
- The least common option is called a single-purpose mortgage. In most cases, this type of mortgage is available from a non-profit organization. There are some local and state government agencies also offering single-purpose mortgages. There must be a single, specific purpose for a borrower to be able to use this type of reverse mortgage.
- A proprietary reverse mortgage is a private loan without any government backing. This kind of reverse mortgage generally enables you to receive a much bigger loan advance. We often recommend this option if your home has a high value.
- The reverse mortgage we see the most often is a home equity conversion mortgage. HUD or the United States Department of Housing and Urban Development backs this type of loan. Your mortgage will be insured by the federal government. Although your upfront costs will be higher, the benefit is you will be able to use your funds for anything you choose. You will be required to have a consultation from a counselor approved by HUD prior to closing on your HECM. The idea is to make certain you understand the specifics of a reverse mortgage from a professional not invested in the outcome.
Pros and Cons of a Reverse Mortgage
If you are in need of funds, we recommend a reverse mortgage to enable you to pay for all of your living expenses. We want you to be aware there are both pros and cons for each type of reverse mortgages.
- You are not required to make any monthly payments on the balance of your loan.
- The money you receive makes your retirement more enjoyable.
- You can use your proceeds for numerous reasons including repaying debts, or healthcare and living expenses.
- If your home is headed to foreclosure, you can pay off your current mortgage to potentially stop your home from entering foreclosure.
- Even if the spouse is not on the mortgage, they can continue living in the home once the borrower passes away.
- The net amount you receive can be decreased due to frequently high closing costs and fees.
- Your home must be maintained, with your homeowner’s insurance and property taxes current.
- You will be borrowing against your home’s equity.
The Costs of a Reverse Mortgage
We believe you should understand the often significant costs pertaining to a reverse mortgage. If you are approved for a HECM mortgage, you should be able to include your closing costs with your loan. This means you will not have any out-of-pocket expenses. The fees included in your closing costs are explained below.
When your HECM loan is processed, you will pay an origination fee. This is either two percent of the initial $200,000 value of your home or a straight two percent. If your home is valued at more than $200,000, you will be charged an additional one percent for the value above this amount. There is a cap of $6,000 for the HECM established by the FHA.
Your lender may charge you a fee each month for monitoring and maintaining your reverse mortgage until the conclusion of your loan. There is a limit of $30 for all monthly service fees when you have an annually adjustable rate or a fixed rate. If your interest rate is adjusted on a monthly basis, the maximum service fee is $35 per month.
The cost of your mortgage insurance for a HECM is unique. The last time the HUD guidelines were updated was during October of 2017. This update requires all borrowers qualifying for a HECM loan to have reverse mortgage insurance. Your insurance is a guarantee your benefits will continue no matter what happens with the investor.
When your reverse mortgage is repaid, you are guaranteed your balance will never be more than your home’s current value. During closing, your cost is two percent of your maximum claim. During the life of your reverse mortgage, your MIP or servicing mortgage insurance premium is charged annually for 0.5 percent of the balance of your loan.
Third-Party Closing Costs:
These costs include a variety of services that might be required prior to finalizing your reverse mortgage. Your costs may include title searches, inspections, credit checks, appraisals, recording fees, surveys, and federal, state and local mortgage taxes. We want you to understand your exact fees are dependent on where your home is located and your lender.
Each lender may charge a different fee, with some lower, and others higher. You will most likely pay a higher interest rate for a reverse mortgage as opposed to a more traditional type of loan. Your rate can also be impacted by the value of your home, your lender, fluctuations in the market and your credit.
Initial Interest Rate:
We generally refer to the initial interest rate as the IIR or the note rate. This rate will be used to calculate the interest rate until the conclusion of the reverse mortgage. This will be your interest rate for either your first year or the first month of your reverse mortgage. This is a short term rate because it only remains in effect for the initial LIBOR index rate. If your lender is using the LIBOR, your rate is based on the one month LIBOR. Although a possibility, a one year LIBOR is fairly rare.
Expected Interest Rate:
The Expected Interest Rate or EIR might be applicable to both a fixed and variable-rate loan. Your expected rate of interest is based on the estimate of your lender for the life of your reverse mortgage. If you have a variable loan, a 10-year index is used as the basis. One of the most common we see is the 10-year treasury rate. If your HECM is for a fixed rate, your expected interest rate and initial interest rate will be exactly the same. Your interest rate will not change during the term of your loan.
The long-term index is used because it is an estimated prediction of the interest rates during the life of your reverse mortgage. While your loan is active, the EIR will not change. There are several reasons the EIR is important including calculating your service fee, determining your principal limits, and calculating the options for your monthly disbursements.
Total Loan Rate:
We also refer to this as the compounding rate. This rate determines the growth of your HECM mortgage balance including two separate charges. The insurance premium for your annual mortgage is 0.5 percent. Your current interest rate is called the note rate. If you have decided to use the option for a credit line disbursement, we want you to be aware your loan balance and credit line will increase at the same rate.
Calculating Your Interest Rates
Your reverse mortgage interest is determined with an established benchmark. There will be periodic adjustments made to your interest rate index. There is a maximum established for both interest rate caps and adjustments. Interest for HECM loans is calculated according to the items defined below.
Your margin is the profit of the lender over the value of the financial index. There are maximums and minimums for your interest rate margin. This differs depending on your lender.
Interest Rate Caps:
The preset margin is your interest rate cap. The maximum is used for the calculation of the indexed rate regarding your loan. Whether or not your loan reaches the maximum is dependent on the index base rate.
Index Base Rate:
The published financial index interest rate determines your base index rate. The rate of the indexed rate will fluctuate during the life of your reverse mortgage.
Periodic Rate Adjustments:
This rate is in reference to the adjustments made regarding the fully indexed rate. This is only applicable if you are receiving a reverse mortgage with an adjustable rate.
Every HECM loan has an annual margin. This is used for the premium to pay your federal mortgage insurance. The rate of 0.5 percent of the balance of your loan was established in February of 2019.
Initial Fully Indexed Rate:
You will be charged this interest rate when your reverse mortgage is initially established. This rate is calculated by adding the margin and index base rate together to find the fully indexed rate.
Maximum Fully Indexed Rate:
This is the maximum interest rate for your reverse mortgage. This is calculated by adding the maximum periodic rate adjustments, margin, and index base rate together. Your rate will increase and decrease during the course of your loan. You may never reach the maximum cap for your interest rate. The interest rate for monthly and annual adjustments are different.