With reverse mortgage underwriting volume setting new records every month, perhaps it’s time to take a step back and examine some of the drawbacks of this popular product.

As with many mortgage products that were conjured out of thin air and/or rose to the fore during the housing bubble, reverse mortgages can be exceedingly difficult to understand. On the surface, it seems quite simple. In return for sacrificing some of the equity in your home, you receive payment(s) from a lender, while retaining the right to remain in your home. What could be better?

Unfortunately, reverse mortgages are inherently structured to the advantage of the bank, despite claims to the contrary. For many homeowners, the exchange of future equity for cash now is eminently reasonable, but it still must be pointed out that the trade inherently favors the lender. This is guaranteed through relatively high interest rates and fees, both of which ensure a lower payout.

Many borrowers don’t bother to calculate the cost of the equity they are giving up, since unlike a traditional mortgage, they don’t have to part with any cash until they pass away or decide to sell the home. However, such a calculation is vital in order to confirm that the exchange basis is reasonable. This is especially true if you opt to receive a lump-sump payment, and proceed to invest any leftover in a savings account, which will almost certainly return less than the rate of interest you are “paying” on the reverse mortgage loan.

Be extremely wary of any marketing materials or sales pitches that make promises to the contrary. Unscrupulous lenders will be quick to capitalize on your ignorance, and may resort to questionable arithmetic in order to demonstrate the financial benefits of reverse mortgage. They may further try to combine the reverse mortgage with another financial product, such as life insurance and/or annuities. From a financial standpoint, this is inherently a losing proposition, since the rate used to calculate your reverse mortgage will always exceed the rate used to calculate your annuity payment.

In short, reverse mortgages should really only be considered as a last resort for most borrowers. For those whose retirement accounts have been decimated by the stock market crash and/or need cash now, it’s still a viable option. Just be advised that the terms are weighted against you, equivalent to selling the equity in you home at a discount. Caveat Emptor / Buyer Beware….

One Response to “Reverse Mortgages: Not Without Disadvantages”

  1. nancie doss Says:

    After closing on a reverse mortgage are you allowed to sell timber off the land (8acres)?

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