Lets start with the benefits. First of all, the flow of funds under a reverse mortgage is one-way. In other words, you don’t have to write any checks to your lender. All of the money associated with the origination of the mortgage flows in your direction. This will be an especially welcome development if you obtain a reverse mortgage in order to repay an existing primary mortgage. Of course, you are merely swapping one kind of debt for another, it’s nice to no longer be responsible for making payments to your lender.

In addition, you have a tremendous amount of flexibility in how you receive and use these funds. You can opt to receive a lump-sump payout, monthly check, or a line-of-credit. You can spend the proceeds on anything you want, however, frivolous, and no one will have any legal basis for intervening.

Second, reverse mortgages allow you to continue to live in your home until you pass away, move out, or fail to maintain and pay taxes on the property. Unless one of these conditions is breached, you can happily remain in your home until the day you die. Regardless of any changes in the property value and the balance of your reverse mortgage, the home will remain yours until the lender is justified in calling the mortgage.

In some sense, then, the reverse mortgage represents a bona fide opportunity to have your cake it and eat it too. As long as you honor the terms of your loan, you can tap the equity of your home for any purpose, all the while still enjoying the right to continue to live there, undisturbed.

Of course, any honest sales pitch should also give space to the drawbacks of a reverse mortgage. Namely, they are expensive. To be fair, the FHA (the government agency which insures 95% of all reverse mortgages) strictly regulates these fees, and lenders themselves have been proactive in reducing them when possible. Still, when you consider the reverse mortgage insurance premiums, origination fees, and service-fee-set-aside (SFSA), reverse mortgages are generally more expensive than conventional mortgages. And don’t forget the biggest cost: interest. Because reverse mortgages are negatively amortizing, the interest will continue to accrue (and compound!) until the loan is repaid.

In addition, reverse mortgages have the potential to be abused and obtained for inappropriate reasons. Since it is no one’s responsibility to police how the reverse mortgage funds are used, anecdotal evidence (and human nature) suggests that funds may be spent on frivolous items, such as vacations, new cars, etc. Reverse mortgages were originally conceived to help older borrower repay primary mortgages and tap their home equity to improve their residences. Those who use the funds for other purposes do so at their own financial peril.

The final drawback is that while ’special,’ a reverse mortgage is still a mortgage. What that means is that if you breach the terms of the contract, the lender can and will foreclose on the property. For example, if the borrower dies or moves out, the lender will recall the loan. Any surviving spouse or family member will not be permitted to continue to reside in the home, unless one of them was also listed as a borrower when the loan was obtained. Also, if the borrower fails to pay property taxes and insurance, and fails to adequately maintain the property, the lender will be justified in recalling the loan.

In short, the reverse mortgage is not a free lunch. You can tap the equity in your home while continuing to live there, but you do so at a price. Understand that trade off, and make your decision accordingly.

According to Freddie Mac, the average rate for a conventional mortgage is now less than 4.5%. While comparable figures for reverse mortgages are not currently available, many of the largest lenders are now offering HECM fixed-rate reverse mortgages at 5%. [The difference can mainly be accounted for in the .7 points that the average conventional mortgage borrower pays to the lender in exchange for the lowest rate possible].

Variable rates, meanwhile, are also hovering around record lows, and a variable-rate HECM reverse mortgage can now be had for around 3.5%. In spite of this, most borrowers these days are opting for fixed-rate mortgages, perhaps as a hedge against higher rates. [For an in-depth comparison of fixed versus variable rate mortgages, you can read an earlier post: Reverse Mortgages: Selecting an Interest Rate] Even though there is currently a 150 basis point spread between variable and fixed rate reverse mortgages, there is a risk that variable rates could rise, in which case those that had locked in a fixed-rate (reverse) mortgage would come out ahead over the long-term.

Of course, it’s not clear how long rates will remain at current, low levels. Fixed rates for reverse mortgages have been around 5% for most of the last year, and theoretically, they could begin rising at any moment. In fact, analysts predicted that rates would rise in 2010 thanks to the unwinding of the Fed’s program of buying Mortgage-Backed Securities. Due to lingering concerns of economic recession and deflation, however, their predictions have been stymied and rates have continued to slide.

For those who are trying to time the market, consider that interest rates, home valuations, and your age are the three main factors that determine the amount of money you will receive from your reverse mortgage. Thus, if you take advantage of low rates and obtain a reverse mortgage now, you might be negatively impacted from a low home valuation. On the other hand, if home prices rise, any gains may be offset by rising interest rates.

Ultimately, it’s difficult to “beat the system,” and I would advise you to avoid getting caught up in interest rate and home valuation fluctuations, and instead to obtain a reverse mortgage only when it suits your circumstances. If you guess wrong, you can always refinance.

For all intents and purposes, the HECM Lite will be identical to the existing Home Equity Conversion Mortgage (HECM), with two key differences. First, the maximum borrowing amount would be significantly smaller compared to the HECM. Second, there would be no upfront mortgage insurance premium, but only an annual premium of perhaps 1.25%. In a nutshell, there would be less money distributed to borrowers and less risk for the lender.

The product is being compared to a home equity loan, in that it will probably appeal to those with small or nonexistent primary mortgage balances and who wish to only tap a small portion of their home equity. In fact, the only discernible difference between between the two is that a home equity loan amortizes normally, while a reverse mortgage (HECM Lite in this case) is negatively amortizing, and carries no duration. In practice, borrowers might also find that the HECM lite is more reliable than a Home Equity Line of Credit, which can be cut by the lender without warning at any time.

As I alluded to in the title of this post, it is expected that the HECM Lite will fulfill two ends. First, it should help to alleviate the financial problems of the FHA. Due to declining home values, high borrowing amounts, and (in hindsight) inadequate insurance premiums, the reverse mortgage program is currently underwater. It is anticipated that by reducing borrowing amounts while maintaining the annual insurance premium will result in lower risk and stable profits for the HECM program, so that it continue to sustain itself without the need for a government cash infusion.

Second, it is hoped that the HECM Lite will appeal to a class of borrowers for whom the existing HECM is unattractive. As FHA insurance premiums rise, criticism will once again mount that the HECM is uneconomical for many, if not most borrowers. As a result of this new product, however, those who wish to borrow comparatively modest amounts and are consequently unlikely to default, will be able to do so at a comparatively reasonable cost.

Ultimately, the HECM Lite is still in the gestation phase, and its not clear when, or even if it will be introduced (though a tentative roll-out date of October 10 has been put forward) . Also, the fact that there is no upfront insurance premium might make it less attractive for lenders, which might try to compensate by raising the origination fees. Still, there is consensus that the HECM lite is a step in the right direction, both in increasing consumer choice and in alleviating the FHA’s fiscal problems.

On that note, I think concerns over reverse mortgage fraud are overblown. With the recent release of the FBI’s annual Mortgage Fraud Report, analysts are attacking reverse mortgages with renewed vigor, and simply rallying around fraud as an obvious focal point.

To be sure, mortgage fraud is real and it is abhorrent. According to the report:

Perpetrators recruit seniors through local churches, investment seminars, and television, radio, billboard, and mailer advertisements and commit the fraud primarily through equity theft, foreclosure rescue, and investment schemes. HECM-related fraud is occurring in every region of the United States, and reverse mortgage schemes have the potential to increase substantially as demand for these products rises in demographically dense senior citizen jurisdictions.

It is frequently pointed out that due both to the demographics of borrowers and the very nature of the product, fraud is especially rife in reverse mortgage lending. There is certainly some truth to this, as it has been established that seniors are comparatively susceptible to being deceived and are less likely to report such deception. In addition, since reverse mortgages don’t require one to spend any money (all fees are rolled in), borrowers are perhaps more apt to let their guard down, since upon closing, they will still finish with money in their respective pockets.

At the same time, however, fraud is a risk in all manner of commercial transactions, and reverse mortgage are hardly unique in this regard. I’m not apologizing for reverse mortgage fraud; on the contrary, I denounce it and think that borrowers should be vigilant in preventing it, and law enforcement agencies should be strict in prosecuting it. At the same time, there is no indication that fraud is any more prevalent (the FBI’s report doesn’t offer any figures) among reverse mortgages than it is in conventional mortgages.

To illustrate this point further, I recently came across two articles that purported to blow the whistle on reverse mortgage fraud. Upon closer inspection, however, it appears that the first (”Mortgage Fraud: A Classic Crime’s Latest Twist“) article was actually a case of title fraud, while the second (”New Scam Targets Elderly Homeowners with Reverse Mortgages“) profiled a new scam that is neither explicitly fraudulent nor explicitly connected with reverse mortgages. In short, naysayers are basically firing blanks in their collective quest to unearth widespread reverse mortgage fraud.

From the standpoint of borrowers, reverse mortgage fraud is not necessarily easy to identify, but it is pretty easy to avoid. As a general rule, you should avoid solicitations. If you decide, against your better judgment, to respond to a solicitation, make sure that the lender is licensed to make reverse mortgage loans in your state. If you are starting from scratch, you can browse our directory and/or or locate a lender through the National Reverse Mortgage Loan Association (NRMLA), which vouches that all of its members are “licensed to originate reverse mortgages in the states in which they are listed and have signed NRMLA’s Code of Conduct.” Finally, remember that before singing a reverse mortgage loan agreement, you are not only entitled to, but are required to undergo a government-sanctioned counseling session. If your loan has any hint of being a scam, it should be exposed at this stage.

In a nutshell, an acceleration clause is just as it sounds: it is a clause that stipulates conditions under which the repayment of your mortgage will be accelerated. If certain terms are breached, in other words, you might suddenly be required to repay your mortgage. Forget about the number of years left until your loan matures- the entire balance is now due in full, payable to the lender.

Reverse mortgages are special, in that they don’t usually have specific time durations. Therefore, the acceleration clause serves a very important function, since without it, the loan would never mature! The specific conditions that would trigger repayment are typically as follows: death of the last remaining borrower, vacating of the residence by the last remaining borrower, failure to maintain the property, and/or failure to pay homeowners insurance premiums and property taxes.

Once any of these conditions is reached, the loan immediately comes due. In fact, the FHA is now putting more pressure on lenders to be more aggressive on enforcing acceleration clauses for borrowers that fall into the latter category. As for the passing away or moving out of the borrower, lenders are slightly more lenient. To be sure, upon such a an event, the loan immediately becomes due. As I explained in an earlier post, however, the borrowers’ heirs can petition for a 1-year extension in order to plan for the sale of the property and/or repayment of the loan.

In short, don’t panic when you read the acceleration clause in your reverse mortgage contract. They are a standard part of the process, and certainly not a scam. Of course, you should still scrutinize the clause in order to make sure that it doesn’t contain any conditions beyond those that I listed above. Since all lenders that participate in the HECM reverse mortgage program are subject to FHA oversight, however, it seems unlikely that they would attempt anything deceptive.

Most importantly, make sure you fully understand the clause. It should be obvious that the loan becomes due when the primary borrower dies. What is less obvious, though, is that the lender can force repayment if the borrower moves out, and/or stops maintaining the property and paying taxes/insurance. Before signing the contract, then, it’s vital that you understand this.

Let’s examine both of these pitches in greater detail. First of all, the idea of using a reverse mortgage to pay off an existing mortgage is nothing new, and was conceived well before the inception of the housing crisis. However, given that more and more borrowers are having trouble staying currency on their primary mortgages, the idea of eliminating one’s mortgage is now more appealing than ever.

To be sure, this is a perfectly valid use for a reverse mortgage. Prospective borrowers need to bear in mind, however, that the majority of the proceeds will be used to pay off their primary mortgages and there will probably be little, if any funds leftover for discretionary spending. Borrowers availing themselves of reverse mortgages for this purpose, then, should make sure that they have adequate savings to support themselves.

The second pitch – using a reverse mortgage to support oneself (temporarily) because of economic hardship – is also justifiable, but also carries certain risks. This idea will probably appeal to prospective borrowers that are “house rich, cash poor.” These borrowers probably have very little primary mortgage debt but otherwise have marginal financial positions. For them, the reverse mortgage represents a source of income and a way to pad one’s savings account.

The risk of such a strategy is that one’s financial position will never improve, in which case the borrower will find himself in the unenviable position of depending entirely on a reverse mortgage for financial support. Once all of the proceeds are spent, the borrower will have to sell the home anyway. Unfortunately, by the time that point comes, much of the borrower’s home equity will probably have been depleted.

In short, reverse mortgages can provide invaluable support to those facing economic hardship. Just make sure that you understand the risks, and that you plan for life after the reverse mortgage.

ReverseMortgage.Net: Critics of reverse mortgage argue that they are expensive, complex, and often unnecessary. Do you agree with any of these notions? Can any negative generalizations be made about reverse mortgages (i.e. Are there certain conditions/situations in which reverse mortgages are always inappropriate?), or must the suitability be gauged on a case-by-case basis?

You always have to look at each potential borrower’s situation on a case by case basis in order to address the individual’s current financial position and the needs they are trying to satisfy.  That is why we always recommend speaking to a Reverse Mortgage Specialist if you are considering the program.  Due to the fact that upfront costs tend to be higher than a conventional loan, a reverse mortgage is not the best option if looking for a short term source of income. In general, it is best if homeowners can commit to living in their home for a minimum of 5 years in order to offset/spread out the upfront cost over time.

ReverseMortgage.Net: On a related note, many reverse mortgage lenders have announced that they will aim to make reverse mortgages less expensive, by eliminating origination fees and/or paying part of the FHA insurance premium. What’s your take on this? Do you agree with the handful of commentators who think that this will only serve to confuse (potential) borrowers?

It is a very positive development for the industry.  It is a good step in the right direction to help more seniors qualify, as well as increasing the payout (sometimes by thousands of dollars) for those already eligible.  Many seniors use a reverse mortgage to eliminate their current mortgage and other monthly payments, helping them to free up more cash and live more comfortably during their Golden Years.  Rather than creating confusion for borrowers, this may actually help to simplify the explanation of the fees since there are fewer of them.

ReverseMortgage.Net: The FHA recently announced that it will step up pressure on lenders  to initiate foreclosure against seniors who are in violation of the terms of their reverse mortgages. Given that lenders are protected against default by FHA insurance, do you think they will be aggressive in foreclosing? Should borrowers be concerned?

It is not likely that lenders will be overly aggressive with foreclosures because of the FHA insurance guaranteeing the loan, and the loans are much more valuable when homeowners occupy the property as long as possible.  Borrowers should always consider the requirements of a loan before moving forward.  Borrowers can address loan requirements with both the Reverse Mortgage Specialist and the HUD counselor.

ReverseMortgage.Net: I read a recent report that showed the the average reverse mortgage is terminated (presumably by the borrower) within only 6 years. What’s your interpretation? Does that imply that borrowers are using reverse mortgages inappropriately? Or perhaps borrowers are moving to repay their reverse mortgages while they still have equity remaining in their homes?

This statistic can most likely be attributed to a combination of those two assumptions.  With the state of the economy over the past few years, it is not unlikely that some seniors may have used their loan proceeds to account for the shrinking of their retirement funds, or even to downsize their homes to cut back on tax and homeowner insurance costs, etc. Some seniors may have done so more as a precautionary move for the unforeseen future economic environment (depreciation).

ReverseMortgage.Net: In your opinion, when is it economical to refinance a reverse mortgage? In other words, how do you balance the prospect of a lower interest rate and more cash with paying the hefty fees associated with refinancing?

It is economical to refinance a reverse in a few situations. The first reason would be if you can dramatically reduce the interest rate on the loan, especially if you can get a fixed rate that is lower than your current adjustable rate HECM. Another situation would be if your home has appreciated over the past few years at a consistent rate.  Many times the rate of appreciation may be enough to offset any costs associated with refinancing.  Most importantly, it is recommended that homeowners who are considering refinancing a reverse mortgage make sure they are not planning to move within the foreseeable future; again this will allow them the opportunity to spread those costs over time, and allowing time for the appreciation of the home in order to help offset costs.

ReverseMortgage.Net: For certain borrowers, it seems that a single-purpose reverse mortgage would be both more economical and more suitable than an HECM reverse mortgage, yet the vast majority of reverse mortgages are insured by the FHA as HECMs. Is this surprising, and do you expect this to change?

This is not surprising considering the current economic environment.  As the economy stabilizes we will begin to see more proprietary loans, creating more options for borrowers.

ReverseMortgage.Net: Is there a way for borrowers to obtain reverse mortgages and still ensure that if/when the time comes, they will still have enough leftover equity to switch to a long-term care facility?

There is no guarantee, and predicting future home values is not possible.  The best way to plan for such a switch is to consult with a financial planner to assess the funds received through the reverse mortgage and/or the amount saved each month by eliminating mortgage payments.  A financial planner can help to develop a plan that aims to ensure funds will be accessible in a worst case scenario, like a depreciating housing market that would eliminate equity.

ReverseMortgage.Net: Most reverse mortgage legislation has aimed to simply increase consumer education and prevent fraud, rather than make it more difficult for borrowers to obtain reverse mortgages. What’s your position on such legislation? Is there a possibility that future regulations will be more strict?

This legislation is a very important part of the reverse mortgage industry, and reverse mortgages need to be closely regulated to protect the senior demographic the loans are designed for.  The goal should be to help as many seniors as possible rather than making it more difficult for seniors, who would greatly benefit from a reverse mortgage, to qualify for one.  However, because these loans are subject to fraud (as is the case with all financial products), education is a very important piece of the puzzle.

Since the collapse of the housing market, all national lenders abandoned their proprietary reverse mortgage product lines because the risks (of home decline and loan default) were suddenly too great to justify offering them. The FHA quickly – though somewhat unwittingly – filled the resulting void with ts HECM reverse mortgage, which has since come to represent more than 95% of new reverse mortgage originations.

In response to soaring losses, however, the FHA has begun to clamp down on lenders (by pressuring them to foreclose when justified) and borrowers (by raising insurance premiums and lowering maximum loan amounts). Thus, it would seem that there is now once again for a competitive proprietary product.

Enter Generation Mortgage Company. Its jumbo proprietary reverse mortgage can be used for homes valued between $500,000 and $6 million. Since the loan is not insured by the FHA, borrowers can expect to pay a higher interest rate to compensate the lender for the added risk. Still, even the FTC concedes that this might be the best option for those with expensive homes: “HECMs generally provide bigger loan advances at a lower total cost compared with proprietary loans. But if you own a higher-valued home, you may get a bigger loan advance from a proprietary reverse mortgage.”

It’s hard to say whether this will be the start of a new trend towards proprietary reverse mortgage lending, since for those with moderately priced homes, it seems the FHA HECM is still the most economical choice. However, if other lenders witness strong demand for Generation’s new mortgage and that Generation itself is able to turn a profit, it could lead to a spate of new proprietary reverse mortgage offerings.

Since most lenders will periodically check on the status of the borrower(s), they will probably learn of the death shortly after it happens. At this point, a letter will me mailed to the primary beneficiary/heir (designated by the borrower and confirmed in the will) apprising one of the situation.

Specifically, you have a few options:

1) Repay the loan in full and keep the property.
2) Sell the property and use the proceeds to repay the loan.
3) Deed the property back to the lender/investor.
4) Abandon the property.

Those who choose to sell the property should be aware that they must receive at least 95% of the appraised value or the full value of the outstanding loan. That rules out the possibility of selling the property to a friend/relative for less than the value of the loan (which is barred by HUD anyway) and simply pass along the loss to the FHA, which presumably insured the reverse mortgage.

If you intend to repay the loan directly and/or sell the property, you should be aware that you technically have 12 months to do so. Unless the property is deeded back to the lender or it has been foreclosed upon, the property officially belongs to the heirs, who retain the right to continue living in the property. As long as they are making a reasonable effort to sell the property or obtain alternative financing to repay the reverse mortgage, the lender will likely grant them a maximum of 4 extensions of three months apiece. During this time, taxes/insurance premiums must continue to be paid, and the loan will continue to accrue interest. If after 12 months no progress has been made or if the heirs violate the terms of the contract in some other way, you can expect the lender to initiate foreclosure proceedings.

Regardless of what happens, you should be aware that you are entitled to any leftover equity in the property if the sale price is greater than the loan balance. On the flip side, a reverse mortgage is a non-recourse loan (and insured by the FHA), which means if it is underwater, the heirs are not liable. If worse comes to worst, you can simply abandon the property and walk away.

The initiative is designed to target borrowers that aren’t paying property taxes and/or hazard insurance premiums, as well as those that aren’t properly maintaining their properties. Given the terms of FHA HECM reverse mortgages, it is only such borrowers who will be affected. That means that the vast majority of borrowers will be unaffected by this push and can rest assured.

It should be noted that not paying property taxes and homeowners insurance premiums has always constituted a violation of the reverse mortgage contract and thus is grounds for foreclosure. In practice, however, the FHA “Didn’t want bad headlines” and didn’t pressure lenders to foreclose.

That was the case when the solvency of the program was a given. Last year, it lost $800 million, and the FHA is struggling to close that gap. The issue is that those who don’t pay their property taxes could ultimately be subject to government tax liens, which would receive repayment priority over the reverse mortgage. With regard to not paying insurance premiums, the concern is that a flood, fire, or other disaster could destroy the collateral (aka the property) for the reverse mortgage. The same risk applies to properties that aren’t adequately maintained.

Apparently, cases of “technical default” or on the rise, due in no small part to the economic recession. In addition, the lack of a built-in escrow account for taxes, insurance premiums (distinct from the HECM insurance), and projected maintenance costs means the onus for monitoring such requisite expenditures is entirely on the borrower.

In short, for those with reverse mortgages understanding, as well as for those contemplating obtaining one, make sure that you honor the terms of your contract. The consequences of not doing so are now serious, and potentially devastating.