EDITOR'S NOTE: This article, which has been updated, was originally published in the June 2010 issue of Kiplinger's Retirement Report. To subscribe, click here.
A price war is on: Reverse mortgage lenders want your business, and they are putting their products on sale by cutting loan fees. While borrowers can benefit from the competition, the terms of the reduced-rate loans could make them unsuitable for some homeowners.
A big complaint about reverse mortgages has been their high upfront costs -- up to 10% of the loan. Now a number of lenders -- Generation Mortgage, MetLife Bank, Wells Fargo and others -- are waiving origination and monthly servicing fees on some loans. "A borrower taking a reverse mortgage on a $500,000 home could see savings of $6,000 to $8,000," says Eric Bachman, founder of Golden Gateway Financial, in San Francisco.
A reverse mortgage allows homeowners who are 62 or older to tap their home equity. A bank advances the homeowner the cash, which must be repaid with interest. Repayment is triggered when a homeowner dies, sells the house, or moves out for 12 months or more. Most reverse mortgages are Home Equity Conversion Mortgages, which are backed by the Federal Housing Administration.
If you are tantalized by ads touting the fee cuts, be careful. Even with the cuts in the servicing fee and the origination fee, a reverse mortgage can be expensive. You will still pay closing costs, such as title insurance. You'll also pay an upfront insurance premium of 2% of the home value (or the lending limit, whichever is less), plus an annual 0.5% of the mortgage balance.
Most lenders are applying the cuts only to fixed-rate loans that must be paid to borrowers in a lump sum. The cuts are generally not available on adjustable-rate loans that can be taken as a line of credit or in monthly payouts.
The interest on a lump-sum loan starts to rack up immediately. Interest on a line of credit is charged only on the amount you tap, and the unused funds in the line will grow in value. "The adjustable rate offers enormously valuable options to borrowers," says Jeff Lewis, chairman of Generation Mortgage. Currently, fixed rates are running about 5%, and variable rates are about 2%.
Also, with the lump-sum option, you must take out the maximum amount you qualify for. (A loan is based on home value of up to $625,500.) If you don't need that much money, says David Certner, legislative policy director for AARP, "a borrower could pay less now in upfront fees, but pay more over the life of the loan because he is paying interest on the full principal limit from day one."
A critical step is to decide how you will use the money. If you want extra income, a monthly payout or a line of credit would likely make the most sense, even with the fees. If you intend to pay off an existing mortgage or make home improvements to age in place, a lump sum could cover those expenses, says Bachman.
Attracting New Borrowers
Reverse mortgage lenders are cutting fees to bolster sagging business. From October 1, 2009, to March 31, 2010, business for the entire industry was down 54%, compared with the same time period the year before, says Craig Corn, the vice-president in charge of reverse mortgage operations for MetLife Bank. The real estate slump is one reason. Also, last October, partly as a result of dropping property values, the government cut the amount a homeowner could borrow by 10%.
Last year's 10% cut "has had a pretty significant impact on the industry," says Corn. The HECM program's next budget, which covers the fiscal year starting October 1, may include further restrictions.
A boost in business would also help lenders meet investor demand for government-backed mortgage securities. Reverse mortgages are being packaged into Ginnie Mae bonds. Fixed-rate, lump-sum reverse mortgage loans are attractive to investors because they offer predictable loan amounts and interest, according to lenders.
Before signing on, shop around with several lenders. Then run your own numbers with the calculator at www.goldengateway.com.