I've been asked about this more & more frequently recently... and I think the public would benefit by understanding the TRUE cutting edge advantages of reverse mortgages (knowledge is power!)Most of you probably already know the basics about reverse mortgages, and the truths that kill the fallacies (the bank does not become the owner, nobody is "losing equity," etc. etc.)From a STRATEGIC FINANCIAL perspective... reverse's give us & our clients the potential access to *EXTREMELY LOW* costs of money. Much lower than alternatives, and at no risk of foreclosure.Here is how & why;A reverse mortgage can be made on approximately 70-75% of the current appraised value of a home. The current fixed rates on a reverse are in the mid-4%s to low 5%s (but the *REAL* costs of a fixed rate reverse DROPS after 7-8 years... I'll show how & why.)A reverse mortgage line of credit has a variable interest rate, and can be currently in the 2%s. This appears attractive on its face value immediately, *and* a senior may even feel that we are unlikely to see rising interest rates to create much risk... and as you see the explanation below, the *REAL* risks and costs to the senior *DROP* over time.Here is why;The reverse lender can only *COLLECT* their interest from the eventual sale of the home. Further, they can *EXCLUSIVELY* collect from the actual NET sale proceeds, and not a dime more. If they accrued more interest charges during the borrower's lifetime than the homesale actually can pay for, those additional charges are not enforceable against the estate, and must be *ignored* as uncollectable by the lender.This means that the lender is relying on the real estate appreciating in resale value faster than their pace of interest charges. If the interest charges accrue faster and higher than the remaining equity of the home, the interest is uncollectable. Uncollectable interest equals INTEREST FREE LENDING on that amount of money, for that amount of time.EXAMPLE;$100,000 home.$75,000 reverse taken out @ 5%After 5 years the accrued interest is $25,507...If the property has zero appreciation, the $507 is uncollectible, and the loan is *FREE* from that point forward.If the near future years have a 1% annual *DROP* in equity value (not incredibly unrealistic, going forward,) then the accrued interest overcomes the actual equity remaining at end of year 3... FREE MONEY from year 4 onwards.If the near future years have a 1% annual *APPRECIATION* in equity value (also not incredibly unrealistic, going forward,) then the accrued interest overcomes the actual equity remaining at middle of year 7... FREE MONEY from year 8 onwards.If the near future years have a 2% annual *APPRECIATION* in equity value (I consider this unlikely and wishful going forward,) then the accrued interest overcomes the actual equity remaining at beginning of year 9... FREE MONEY from year 10 onwards.The actual final cost of money from a reverse mortgage can only be determined by the eventual measure of appreciation from today forward until the senior passes away or moves out & the heirs re-sell the home... but in no realistic case will the final actual interest collected from the proceeds come anywhere near the initial fixed rates of 4.5% to 5%... If a senior uses a reverse line of credit, and rates stay low, they may never actually consume all of their real home equity... or, if they extend complete consumption of the equity out many years into the future (due to future appreciation,) they're real interest costs remain extremely low.ALL THE WHILE this frees up cashflow... which is exactly what many folks need.Cheers,Dave DonhoffLeverage Planner
Dwdonhoff writes,The actual final cost of money from a reverse mortgage can only be determined by the eventual measure of appreciation from today forward until the senior passes away or moves out & the heirs re-sell the home... but in no realistic case will the final actual interest collected from the proceeds come anywhere near the initial fixed rates of 4.5% to 5%...</snip>I'm always interested in a detailed accounting of the fees and costs associated with any financial scheme. Interest rates and home values go up and down, but the money you lose to the mortgage company and financial advisor in fees & commissions is gone forever.intercst
Hi intercst,I'm always interested in a detailed accounting of the fees and costs associated with any financial scheme.I hope I didn't leave a vague suspicion about non-interest costs & fees changing over time, they don't. Reverse mortgages (by the nature of the exclusively senior market, in relationship to their occupancy,) are more diligently accounted & disclosed than virtually any other financial product in the market, bar none.It is the final determination of how much the borrowed money *ACTUALLY* incurs in INTEREST charges that drops in the case of moderate to low appreciating real estate markets (as we are most likely facing from this point forward.)Cheers,Dave DonhoffLeverage Planner
You are neglecting to mention 2 important issues:- The origination costs of reverse mortgages are charged based on the value of the home, not on the value of the mortgage taken out. And the Mortgage Insurance Premium on reverse mortgages is 2 points, based on the value of the home, up front. So, if the senior were to take out a $75k mortgage on a $100k home (often not possible, depending on the age of the senior, and valuations in the state, but more on that later), they will charged an upfront fee of $2,000, based on the value of the home. A $2,000 fee on a $75k mortgage is equivalent to 2.67 points.- In addition to interest charged on the reverse mortgage, the servicer also adds a monthly servicing fee each month. (Note - In forward mortgages, a monthly servicing fee is also charged, but it's charged to the investor in the mortgage, not to the homeowner.) I think my Mom was quoted a $15/month fee when we looked into a reverse mortgage for her home a couple of years ago. This means that the principal balance will actually grow by the interest plus the $15 (or whatever it is) fee.EXAMPLE;$100,000 home.$75,000 reverse taken out @ 5%That's a pretty aggressive lump sum equity amount to be taken out in a reverse mortgage. There is a link to the a HECM calculator on this HUD webpage http://portal.hud.gov/hudportal/HUD?src=/program_offices/hou... When I put in information about a 75 year old with a $100k home, depending on which type of interest (variable, fixed) and which type of loan (standard, saver) is chosen, the initial lump sum ranges from $45k to $65k. For a 65 year old, the amount allowed to be loaned is even less - $41k to $59k.So all of your calculations on when the money becomes 'free' are too aggressive based on what is initially allowed to be loaned. A $50k loan at 5% plus a $15/month service fee on a $100k home would not exceed the $100k original value of the home for 159 months (13 years and 3 months) That's a over 2 1/2 times longer than the 5 years your example gave for the 'no appreciation' scenario. And with any appreciation at all, the time frames increase further.AJ
I'm kinda thinking that a RM mainly makes sense to people who don't need one.But perhaps that's colored by the facts of one case I know. By BIL took out a reverse mortgage about 8-10 years ago, and has been tapping it out monthly by writing checks. (I don't know the value of his house nor the amount of the mortgage. Zillow says $120K value.)Late last year his bank told him to stop writing checks because he was tapped out. Actually, they told him by bouncing the check he wrote for the real-estate taxes. OUCH!! Followed up by a letter.So now he's 70 years old, has no income other than SS, and has zero equity.All the factoids about low interest rate, etc. are meaningless when yuo are in that position. He spent all his equity and still has another 10-15 years of life expectancy.What would be the characteristics of somebody for whom the low effective rate is meaningful and is beneficial? Somebody who has significant assets other than the house they are living in. Somebody who is astute enought to pull the equity from the house and put it in investments. IOW, somebody who doesn't really need a reverse mortgage at all.Dave, I suspect your clients are the latter category and that you don't have _any_ clients in the position of my BIL.
I hate it when simple tools get made too complicated.I agree with you, Rayvt, that one time a reverse mortgage makes sense is when you really don't need it. The other reverse mortgage that makes sense to me is one that is not a lump sum, but monthly payments. For those that enter retirement with a paid-for home plus a smaller investment portfolio or a pension that's not increased for inflation, there will likely come a time when they need additional money each month.That's when I'd recommend a reverse mortgage. But I'd recommend a small or no initial lump withdrawal. Just get some monthly payments that will continue to well past their life expectancy. I'd hazard a guess that the monthly payments could go on for 20 years or more without exhausting the equity in the house.That effectively lets the house-poor retiree tap into their home equity to fund the later part of their retirement without having to sell their house and move. It's not for everyone, but for those who can continue living on their own and would do better in their own home than they would in some other setting, I think it can be a good choice.--Peter
Dave, I suspect your clients are the latter category and that you don't have _any_ clients in the position of my BIL. Yep... I almost never write reverse mortgages (of either kind.) Your assessment of them making real sense only for those who really don't need them... I agree with that.Cheers,Dave DonhoffLeverage Planner
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