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Reverse Mortgages: What You Need to Know

The TV is full of upbeat ads pitching reverse mortgages as an easy, cost–free way to generate income. What many ads don’t say, is that reverse mortgages come with risk, including the risk of foreclosure.

A reverse mortgage is a type of home equity loan that is only available to elderly borrowers, typically age 62 and older. The borrower must own their home free of any existing mortgage, or have a mortgage that is small enough to be paid off with the reverse mortgage proceeds. Typically, there is no income requirement or need to have a certain minimum credit score to qualify for a reverse mortgage. Homeowners remain responsible to pay all taxes, insurance, and maintenance on the property during the loan period.

Once the homeowner/borrower moves or dies, the reverse mortgage loan becomes due. The property will mostly likely be sold, the lender will take its share, and any remaining balance of the sale proceeds is paid to the heirs.

Reverse mortgages definitely have an upside – they allow a homeowner to convert home equity into cash without having to make any payments on the loan as long as he or she lives in the house. In addition, at the time the loan becomes due, if the house is worth less than the amount owed, the lender will incur the loss. The homeowner or his or her heirs will owe nothing more.

However, reverse mortgages definitely have a downside too. If the homeowner fails to pay the property insurance and property taxes, the reverse mortgage is deemed to be in default and the lender could foreclose on the property. This sometimes happens because the homeowner either 1) outlives the amount of money borrowed or 2) loses the proceeds due to poor investment decisions, resulting in the inability to pay these expenses.

In addition, once the loan becomes due, when the homeowner dies or chooses to move, the lender will not only take the loan amount out of the sale proceeds, but also the fees and interest that have accrued over the years – which could be substantial.

Reverse mortgages may be appropriate for some people. Before making any financial decisions, you should do your homework. The Federal Trade Commission offers some helpful information on reverse mortgages that can be found by here.

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