Reverse Mortgages Pose Problems for Seniors


NEW YORK (MainStreet) — A reverse mortgage can be a lifesaver for an older homeowner running short of money, and anyone considering one of these no-payment loans should probably investigate now, as the deals won’t be as good later on if interest rates continue to rise.

But a number of consumer groups warn that too many seniors are taking on these pricy loans. Many, they say, should first consider alternative sources of funds, including loans from family members.

“As the market for reverse mortgages grows, concerns are mounting that an increasing number of seniors are being misled into signing up for a complicated financial product that may squander their equity prematurely or put them at risk for losing their homes,” the groups, led by the Consumers Union, said in releasing a recent report critical of the reverse mortgage industry.

The groups warn that many homeowners are being pressured by lenders into taking these loans before they understand the full costs, which can be high.

How can a “no-payment” loan be pricy? Although the homeowner does not have to make any monthly payments, there are interest charges that are added to the loan balance every month. Interest tacked onto interest will snowball until the loan is paid off, or after the borrower sells or dies. In addition, there are various up-front and annual fees that add to the loan balance, though the government recently introduced a lower-cost alternative for homeowners who need only modest loans.

The consumer groups warn that homeowners who take these loans too early can deplete all of their home equity long before they die. A homeowner with little or no mortgage or home equity debt can get a reverse mortgage as early as 62, but can borrow more by waiting. Other factors like the loan's interest rate also govern how much of the home’s market value can be withdrawn with a reverse mortgage. The lower the rate, the more one can get.

A further concern, say the consumer groups, involves the promise that the homeowner can stay in the home for life, even if the debt eventually exceeds the home’s value. Many borrowers do not realize they can in fact lose their homes through foreclosure, or have their loans called, if they move out for more than 12 months, or fail to pay their taxes, association dues or homeowner’s insurance premiums, or even let the property deteriorate.

Before resorting to a reverse mortgage, homeowners should make sure they are getting all the benefits they can from Social Security, Medicaid, prescription drug programs, state property tax discounts for seniors and programs run by city and county governments. A state-by-state guide is available on a site backed by AARP.

Another alternative is family financing such as a loan that is structured like a mortgage from the children to the parents that uses the parent’s home as collateral.

The costs of setting up a loan are much lower than with a reverse mortgage, and there would be no rigid rules about occupying the home. It’s even possible to have a lawyer set up an intra-family reverse mortgage, so the parents don’t have to make any payments.

To work best, the loan should charge at least the minimum set by the government’s table of Applicable Federal Rates. Currently, that would require a rate of about 3.5% for a long-term loan.

Such a loan, though cheaper than a regular reverse mortgage, can be complicated and produce friction between family members. Another alternative is that the children can buy the home from the parents and then rent it back to them.

Finally, the homeowner can consider “downsizing,” or selling the home and then buying something cheaper, and living on the difference.

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