Advertisements for reverse mortgages can give the false impression that they are an easy, cost-free way for retirees to finance vacations and leisurely lifestyles. But reverse mortgages aren't free money, and misusing them—or misunderstanding how they work—can jeopardize your financial future.
The Consumer Financial Protection Bureau (CFPB) recently conducted a study of older homeowners and found that after seeing ads for reverse mortgages, many of these homeowners did not fully understand what they are. For instance, some homeowners did not know that reverse mortgage loans have to be paid back. The CFPB has released three facts to consider when you see ads for reverse mortgages.
1. A reverse mortgage is a home loan. A reverse mortgage is an interest-bearing loan secured by the equity in your home, and as the CFPB states, it is not a government benefit. Like a home equity loan, a reverse mortgage allows you to convert your home equity to cash that you can use for any purpose, and there are fees and compounding interest that must be repaid. Unlike other home loans, however, you make no interest or principal payments during the life of loan. Instead, the interest is added to the principal so your principal balance continues to grow over the life of the loan. Unless you choose a fixed-term loan, the loan only becomes due when you die, sell your home to move, or otherwise leave your home for an extended period of time.
2. It is possible to lose your home with a reverse mortgage. The CFPB warns that when a reverse mortgage ad says you can retain ownership of your home and live there as long as you'd like, you should be wary. This is true only if you continue to meet all of the loan obligations, such as property taxes, insurance, home maintenance costs and other requirements. If you're not able to meet these obligations, the lender may have the right to foreclose on your home, leaving you in the worst possible situation—no place to live, and no more home equity to draw on. Make sure you understand these risks and the obligations imposed in a reverse mortgage agreement before signing on the dotted line.
3. You can outlive your loan money. Reverse mortgage ads may give you the impression that with one of these loans, you'll have financial security for the rest of your life. But as the CFPB notes, Americans are living longer today than ever before, so you need to ensure that your financial plan takes this into account. Make your retirement assets last longer by planning in advance how and when you'll be spending that money—including your home equity.