Reverse Mortgage Pros and Cons

By Bill Lyons | Published on October 11, 2023

A reverse mortgage allows homeowners over the age of 62 to leverage their home’s equity without selling or moving. These loans offer seniors a method of supplementing their retirement income, paying for medical expenses, or undertaking home improvements.

Instead of the homeowner paying the lender like a traditional mortgage, in a reverse mortgage, the lender pays the borrower based on their home’s value. However, like all financial tools, reverse mortgages have benefits and drawbacks.

Homeowners must understand the intricacies of this mortgage type and weigh its benefits against possible challenges. Choosing a reverse mortgage should be based on your financial situation, long-term goals, and an understanding of the terms involved.

Keep reading to learn more about the pros and cons of reverse mortgages and how they work to determine if this is the right option for you.

What Is a Reverse Mortgage?

A reverse mortgage is a specialized loan designed specifically for homeowners aged 62 and older, allowing them to convert a portion of their home’s equity into cash. Unlike a traditional mortgage, the lender makes payments to the homeowner, who gets to choose how they receive these payments — whether as a lump sum, installments, or a line of credit.

What makes these loans so unique is that the homeowner isn’t required to repay the loan for as long as they live in the home. Payment is deferred until the homeowner either sells the home, moves out, or passes away. At that point, the loan principal, accrued interest, and fees must be repaid.

Simply put, a reverse mortgage allows senior homeowners to leverage their home’s equity to supplement their income, manage unexpected expenses, or achieve other financial goals — all while retaining homeownership.

Keep in mind that there are three types of reverse mortgages — home equity conversion mortgages (HECM), single-purpose, and proprietary reverse mortgages. The HECM is backed by the US Department of Housing and Urban Development (HUD) and is the most popular and widely available. Local governments or non-profit organizations typically offer single-purpose reverse mortgages that can only be used for a single, specific purpose, while proprietary reverse mortgages are private loans and typically only suitable for homes with higher values, offering potentially larger loan amounts.

Each type of reverse mortgage has pros and cons, so it’s crucial to understand each option and determine which is best for your situation.

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How Does a Reverse Mortgage Work?

A reverse mortgage works in a fundamentally different way when compared with a conventional mortgage. Instead of the homeowner making monthly payments, the lender provides funds to the homeowner. It’s designed to provide seniors with access to their home equity without selling or moving out.

The property must be the borrower’s primary residence and have significant equity. If there’s an existing mortgage, it’s generally required to be paid off with the profits from the reverse mortgage.

The amount the homeowner can borrow is based on their tappable equity and interest rate. Once approved, the borrower has various options for receiving the funds. They can choose:

• A lump sum as a one-time payout
• Monthly payments for as long as they live in the home
• A line of credit that allows them to draw money up to a certain limit when needed
• A mix of a line of credit and monthly payments

Like any other type of loan, the interest on a reverse mortgage accumulates over time, especially since no payments are made during the life of the loan. This means that your balance will grow as the years go by rather than decreasing like a regular mortgage where you’d make regular payments.

This type of mortgage also allows borrowers to stay in the home without making loan payments, but they must continue to pay property taxes, homeowners insurance, HOA fees, and any other required home maintenance.

The loan balance becomes due when the borrower passes away, the property is sold, the borrower moves out for more than 12 consecutive months, or the borrower fails to meet the loan obligations. When this happens, the home can be sold to repay the lender. If the sale exceeds the amount owed, the remaining money goes to the homeowner or their beneficiaries.

Another standout feature of a reverse mortgage is that they’re non-recourse, meaning the repayment amount won’t exceed the home’s value. If the loan balance is greater than the home’s value, the lender can’t go after other assets.

Reverse Mortgage Qualification Requirements

Obtaining a reverse mortgage requires meeting specific lender criteria, which can vary by lender. However, general requirements typically include:

• Age requirement: The primary borrower must be at least 62 years old. If married, the younger spouse’s age can be used to determine loan terms.
• Primary residence: The property must be the borrower’s primary residence. Vacation homes and investment properties typically don’t qualify.
• Home equity: The homeowner should own their home outright or have a significant amount of equity. If there’s an existing mortgage or lien on the property, it typically needs to be repaid using the proceeds from the reverse mortgage.
• Financial assessment: Lenders will conduct a financial assessment to ensure borrowers can meet the reverse mortgage obligations and continue paying property taxes, homeowners insurance, and other expenses.
• Counseling: Before getting a HECM reverse mortgage, borrowers must attend a counseling session with a HUD counselor. This session ensures borrowers understand the loan’s terms, conditions, and obligations.
• Upkeep and maintenance: Borrowers must ensure that the property remains in good condition. Failure to maintain the property might lead to the loan becoming due.

Benefits of a Reverse Mortgage

A reverse mortgage offers a range of benefits tailored to seniors’ unique financial needs. Key benefits of a reverse mortgage include the following:

Financial flexibility

With a reverse mortgage, homeowners can bolster their retirement funds and ensure a more comfortable and secure lifestyle. Unlike a traditional mortgage, there aren’t monthly repayments as long as the homeowner lives in the house and meets the loan’s requirements. This flexibility allows the borrowers to use the funds however they choose.

Multiple payment options

Borrowers can choose exactly how they receive funds, whether it’s a lump sum, monthly installments, a line of credit, or a combination, offering flexibility based on personal needs and preferences.

This versatility ensures that seniors can tailor the reverse mortgage to fit their unique financial circumstances. For instance, those facing immediate large expenses might opt for a lump sum, while others wanting a steady stream of income can choose monthly installments. Meanwhile, a line of credit allows homeowners to draw upon the funds as needed, providing a safety net for unexpected costs.

Seniors can also mix and match these options to design a payout structure that evolves with their changing needs.

Retain ownership

One of the most significant benefits of a reverse mortgage is the ability to tap into home equity without selling or moving out. This allows seniors to remain in familiar surroundings and communities while supplementing their retirement incomes.

Limit on repayment amounts

Again, the reverse mortgage loan is a non-recourse loan. Therefore, borrowers or their heirs will never owe more than the home’s value, even if the loan balance exceeds that value. With no additional financial burdens in the long run, seniors can enjoy the benefits of the loan without worrying about passing on debt to their loved ones. This is one of the most reassuring aspects of a reverse mortgage for many elderly homeowners.

Tax-free proceeds

The money received from a reverse mortgage is considered loan proceeds, not income, and is therefore not taxable. Seniors can use the funds without worrying about any immediate tax implications. This tax-free nature allows retirees to maximize the benefits of their home’s equity without additional financial concerns.

Potential appreciation

If the property’s value increases over time, homeowners or their heirs can benefit from the appreciation when the home is eventually sold. This means that even after obtaining a reverse mortgage, the potential for capital gains remains intact for the homeowner. For example, if a senior secured a reverse mortgage when their home was valued at $300,000 and years later that value rose to $400,000, the additional $100,000 in appreciation belongs to them when they move out and sell.

Flexibility in usage

There’s no restriction on how you use the funds. Whether you choose to renovate your home, pay for medical expenses, travel, or simply have comfortable daily living, the choice is entirely yours. This flexibility empowers seniors to prioritize their needs to enhance their quality of life during retirement.

What Are the Downsides of a Reverse Mortgage?

Unfortunately, like all mortgage options, there are reverse mortgage pros and cons you should weigh before making the ultimate decision. While a reverse mortgage can offer numerous benefits, it also comes with potential negative implications. So, what is the downside of a reverse mortgage? There are a few, including:

Accumulating interest

Since there are no monthly repayments, the interest on the loan accumulates over time. This means the balance grows, reducing the home’s total equity. As the interest compounds, it can significantly increase the loan amount over the years. Borrowers must be aware that the longer they keep the reverse mortgage without making payments, the more their equity diminishes.

However, despite the accumulating interest, the non-recourse nature of the loan ensures homeowners will never owe more than the home’s value.

Closing costs and fees

No loan is free, and reverse mortgages can come with a variety of fees, including origination fees and closing costs, which can be higher than traditional mortgages. These costs can add up, potentially eating into the amount of money you can draw from your home equity. Closing costs encompass a range of expenses, so homeowners should get a clear breakdown of all associated fees before committing to a reverse mortgage.

Reduced equity

As the loan balance increases due to accumulating interest, the equity in the home decreases. This means there might be less to pass on to heirs when the homeowner passes away or decides to move out.

Additionally, if a homeowner decides to sell the property, they might find that a significant portion of the sales proceeds will pay off the reverse mortgage balance, leaving less net profit from the sale. This diminishing equity can be a significant drawback for seniors who place a high value on preserving wealth for the next generation.

Potential for foreclosure

The lender could foreclose if a borrower fails to meet the loan’s requirements, such as paying property taxes, homeowners insurance, or maintaining the home.

While reverse mortgages eliminate the need for monthly mortgage payments, they still come with responsibilities. Foreclosure is a grave consequence, and it can be particularly distressing for seniors who might lose their homes. Any lapse in responsibilities can be deemed as a breach of the loan’s terms.

Additionally, letting the home fall into disrepair can also violate the agreement. Therefore, homeowners must diligently uphold the requirements to avoid potential foreclosure.

Impact on assistance

The funds from a reverse mortgage could affect eligibility for government benefits, including Medicaid. These government programs have strict income and asset limits, and an increase in available resources might push a beneficiary over the threshold, leading to a loss or reduction of benefits.

If you’re considering a reverse mortgage, consulting with a financial advisor or expert can help you understand how your other benefits might be affected.

Is a Reverse Mortgage a Good Idea?

The question of whether a reverse mortgage is a good idea depends on various factors, especially the borrower’s unique situation. While a reverse mortgage can be a valuable financial tool, it may not be the best fit for everyone. To help you determine whether a reverse mortgage is a good idea for you, here are a few factors to consider:

• Financial situation: If a homeowner has substantial equity in their home but is cash-poor, a reverse mortgage can provide a financial cushion to cover daily expenses, medical bills, and other unexpected costs.
• Goals: Some homeowners may want to travel, invest in experiences, or provide financial assistance to family members. In these cases, accessing home equity can be a way to achieve these goals.
• Expenses and lifestyle: A reverse mortgage can be particularly beneficial for those facing increasing living expenses in retirement and want to maintain a certain lifestyle.
• Long-term plans: Those who plan to stay in their homes for many years to come might find more value in a reverse mortgage than those planning to downsize or relocate soon.

Ideal candidates for a reverse mortgage include those with significant equity. Ultimately, the more equity you have in your home, the higher the potential loan amount. If you’ve lived in your home for a long time or have paid off a significant portion of your mortgage, you might benefit the most.

In addition, those who need supplemental income may be good candidates. For retirees on a fixed income, a fixed mortgage can provide additional financial stability to bridge gaps between expenses and income.

Keep in mind that these loans make the most sense for those who plan to stay in their homes for the foreseeable future. Those in good health who anticipate living in their home for many more years can maximize the loan’s benefits, taking advantage of the accruing equity from property appreciation over a longer period.

Alternative financing options

Homeownership often comes with the advantage of building equity over time. Unfortunately, this equity isn’t liquid, so you’ll need a loan to gain access to it. If homeowners are looking to tap into this equity, a reverse mortgage isn’t their only option. Individuals who don’t meet the requirements of reverse mortgages still have access to home equity loans, home equity lines of credit, and cash-out refinancing. These alternatives can provide liquidity and flexibility based on individual needs and financial situations.

• Home equity loan: A home equity loan is a second mortgage that allows you to borrow a lump sum based on your home’s equity. It comes with a fixed interest rate and a set repayment term, typically between 5 and 30 years.
• Home equity line of credit (HELOC): A HELOC operates like a credit card but is secured against your home. It provides a revolving line of credit up to a set amount, allowing you to borrow as much or as little as you need during the draw period. Interest rates on HELOCs are typically variable and fluctuate with market conditions.
• Cash-out refinance: A cash-out refinance allows you to replace your current mortgage with a new one for a larger amount than what you owe on the property. You’ll then receive the difference in cash. This approach is often used by homeowners who want to capitalize on increased property values while also possibly securing a better interest rate or loan terms.

Each option has distinct advantages and disadvantages, so it’s crucial to assess your financial needs and carefully consider the terms and conditions before choosing the best way to tap into your home equity.

Review the Pros and Cons of a Reverse Mortgage to Determine If It’s Right for You

The decision to get a reverse mortgage is crucial and is often influenced by the homeowner’s unique financial circumstances and goals. Comparing the pros and cons of a reverse mortgage can help you make the best decision for you. If you want to unlock your home’s equity without selling or relocating and are at least 62 years old, a reverse mortgage might be the right option.

Choose Griffin Funding as your partner if you’re considering a reverse mortgage. Our dedicated team ensures that you’re equipped with all the necessary information to help you make the right decision based on your long-term goals. Apply for a reverse mortgage online today.

Bill Lyons

Bill Lyons is the Founder, CEO & President of Griffin Funding. Founded in 2013, Griffin Funding is a national boutique mortgage lender focusing on delivering 5-star service to its clients. Mr. Lyons has 22 years of experience in the mortgage business. Lyons is seen as an industry leader and expert in real estate finance. Lyons has been featured in Forbes, Inc., Wall Street Journal, HousingWire, and more. As a member of the Mortgage Bankers Association, Lyons is able to keep up with important changes in the industry to deliver the most value to Griffin's clients. Under Lyons' leadership, Griffin Funding has made the Inc. 5000 fastest-growing companies list five times in its 10 years in business.