What are the pros and cons of a reverse mortgage?
As a homeowner, there are lots of ways to access your home equity. You can take out a home equity loan or HELOC, apply for a cash-out refinance, or — if you're a senior — get a reverse mortgage.
Reverse mortgages are a unique option because they require no monthly payments. Instead, you receive payments from the reverse mortgage lender.
This can make them an innovative tool for retirees needing extra cash or those looking to cut monthly costs when income is limited. Still, reverse mortgages aren't the right move for everyone, and they have some pretty steep risks. Here are the pros and cons you'll want to consider before taking out a reverse mortgage.
In this article:
What's a reverse mortgage?
Reverse mortgage pros
Reverse mortgage cons
FAQs
A reverse mortgage is a type of loan that lets you borrow from your home equity — only in 'reverse.' Instead of borrowing the cash and paying it back with monthly payments over many years, the balance (plus interest) only gets repaid when you move out of the home, sell the house, or pass away.
In the meantime, the lender pays you — either through a regular monthly payment, a single lump sum, or a line of credit that lets you withdraw money as needed.
Only older homeowners are eligible for reverse mortgages. For Home Equity Conversion Mortgages (HECMs) — the most common type of reverse mortgage insured by the Federal Housing Administration (FHA) — you must be at least 62. Some lenders offer proprietary reverse mortgages, allowing borrowers as young as 55 to qualify.
Reverse mortgages offer several benefits for older homeowners. For one, they can provide much-needed income at a time when earnings may be scarce. Even better? That money isn't taxable. (The IRS considers it loan proceeds, not taxable income.)
They also allow you to age in place while eliminating your monthly housing payment, which can help you stretch your retirement dollars even further. And as long as you use a HECM, you'll never owe more than your home is worth. That means if your home loses value over the years, you'll only owe the lender up to its fair market value — nothing more, regardless of how much you borrowed.
While reverse mortgages have advantages, they also come with some significant risks. First, just like other home loans, they are secured loans that use your home as collateral. So, if you fail to comply with the terms of your loan (such as staying current on property taxes, home insurance, and maintenance), you could lose your house to foreclosure.
This type of loan may also affect what you leave behind for your heirs. It can deplete your equity and task your loved ones with paying off your reverse mortgage loan balance — either through selling the home or out of pocket.
Reverse mortgages have up-front costs too. These include origination fees, charges for third-party service providers, mortgage insurance premiums, and other closing costs. If you don't want to pay closing costs up front, you can request to have the expenses taken out of your loan proceeds.
Unlike traditional mortgages, reverse mortgages won't qualify you for the mortgage interest tax deduction until you repay the loan. (Even though interest accumulates, you aren't making interest payments to the lender, so you can't deduct it on your tax returns.) If you don't spend all the funds each month, they can also hinder your ability to qualify for Medicare or even Social Security benefits. Speak with a financial advisor about these potential issues before taking out a reverse mortgage.
There are many potential drawbacks to reverse mortgages. They put your home at risk of foreclosure, come with closing costs, and impact what you leave behind for your heirs. They can also affect your eligibility for benefit programs such as Social Security or Medicare.
Suze Orman discussed reverse mortgage loans on a 2021 episode of her podcast, Women & Money. She suggested that selling a home may be a better option for seniors needing cash — particularly those needing to use the proceeds to pay off an existing mortgage.
Many consumers worry about losing their house when taking out a reverse mortgage, as well as its ability to quickly deplete their home equity, leaving little behind for any beneficiaries. In some cases, reverse mortgages can also impact Medicare and Social Security benefits.
This article was edited by Laura Grace Tarpley.
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