The sagging housing market has claimed another victim. Wells Fargo, a leading provider of reverse mortgages to older homeowners, has announced that it is leaving the business. It will stop accepting applications for new reverse mortgages after June 30, 2011, but it will continue to service existing loans that seniors use to tap into the equity in their homes.
Plenty of other reverse-mortgage lenders remain to help if you’re in or nearing retirement and are dealing with some challenging financial issues. You're likely to live longer than your parents or grandparents, but you're less likely to have a pension to count on for steady income. Perhaps you didn't save enough for retirement or, even if you did, your funds haven't fully recovered from the stock market meltdown.
You may have a lot of your wealth tied up in your home, which you'd like to tap to generate retirement income. Short of selling the house and moving, a reverse mortgage may be the way to go. Surveys show that relatively few eligible borrowers have considered reverse mortgages. But these products could become more attractive with the recent introduction of a lower-cost version.
Although reverse mortgages have traditionally been the province of retirees with inadequate cash flow, more-affluent borrowers have begun to take them out, too, says Peter Bell, president of the National Reverse Mortgage Lenders Association. Many are seeking to maintain their lifestyle and aren't worried about leaving a legacy (or the house) to their kids.
An income bridge. You may qualify for a reverse mortgage if you (and your co-borrower) are at least age 62 and have substantial equity in your home. Your income, assets, debts and credit score don't matter when you apply for a reverse mortgage, and you use the proceeds to retire your current mortgage without taking on new payments.
As the name implies, the loan works like a traditional mortgage, except in reverse: The lender pays you. No repayment is due until you leave the home (if you sell the house, die or are away from home for more than 12 months -- say, for a stay in a nursing home). At that point, the lender will call the loan due. Your heirs can pay off the balance out of resources they have or sell the house and receive any leftover proceeds. The best part is that the amount you owe cannot exceed the market value of the home when you leave it.
With the extra tax-free cash from a reverse mortgage, you might be able to delay taking Social Security until you qualify for full benefits at your normal retirement age of 66 -- or even larger benefits later (up to age 70). That strategy may appeal to "accidental retirees" who found they couldn't work as long as they had expected, say, due to illness or a layoff.
If you take out a reverse mortgage before tapping other tax-deferred investments, such as a 401(k) or traditional IRA, you'll probably be taking money out of a poorer-performing investment -- your house -- while allowing your other investments to continue to grow tax-free, possibly resulting in a bigger payout from your investments later on, says Jeff Lewis, chairman of Generation Mortgage, in Atlanta. Lewis notes, however, that a reverse mortgage involves some substantial upfront costs. The amount may be justifiable if you're going to stay in the house for ten years or more, but it probably isn't if you must sell the house within the first few years of tapping your home equity.
In 2001, Les Cathersal, 72, and his wife, Mary Lou, 70, of Tacoma, Wash., built their retirement home overlooking Puget Sound. Two years ago, Les, who is partially retired from the money management firm he founded, decided to take out a reverse mortgage. "I thought, Why not take money out of the house? I'll live in it until they carry me out in a box, and I'll never get the money out otherwise," says Les.
Two choices. The original reverse mortgage (a home-equity conversion mortgage, or HECM) is now known as the standard version. A new, lower-cost option, known as the saver, may prove to be a game-changer. Launched by the Federal Housing Administration (FHA) in October 2010, the saver is now widely available from reverse mortgage lenders.
To get a standard reverse mortgage, you must pay an initial mortgage insurance premium equal to 2% of the maximum claim amount (which is the lower of either the home's appraised value or the government's current lending limit of $625,500). The saver slashes that initial cost to just 0.01%. However, it also reduces the maximum amount you may borrow by 10% or more.
With either the standard or the saver version, lenders will calculate your potential payout using a formula based on the age of the younger borrower, the maximum claim amount and the current interest rate. You must pay an origination fee (up to $2,500 for homes worth less than $125,000 and up to $6,000 for more-expensive homes); an annual mortgage insurance premium (equal to 1.25% of the outstanding loan balance); a monthly servicing fee (about $30, often factored into the interest rate); and the usual mortgage closing costs (typically a few thousand dollars). You can roll those costs into the loan, which will reduce the amount you can borrow.
The older you are when you take the loan, the more you can borrow. That might tempt couples to omit the name of the younger co-borrower from the loan. Don’t. In the event of the named borrower’s death, the lender could call the loan and force the surviving spouse from the house if he or she couldn’t pay the balance due. (Earlier this year, AARP filed a suit against the Department of Housing and Urban Development challenging that rule. By June, the issue remained unresolved. However, in response to the lawsuit, HUD has clarified that relatives who wish to keep the house when the loan comes due needn’t repay the full balance on the loan if it exceeds the property’s current market value. Like an unrelated, third-party buyer, family members can pay off just 95% of the appraised market value.)
The lower the interest rate used to calculate how much money you qualify for, the more you can borrow. The minimum rate is now 5%, down from 5.5% in October 2010. The FHA lending limit of $625,500 expires on September 30, 2011, and a lower limit is likely to replace it. That will push some owners of more-expensive homes into jumbo territory. Generation Mortgage, the only lender currently making jumbo reverse mortgages, offered a rate of 8.875% in June.
If you want the biggest payout and want it to last as long as possible, choose a standard reverse mortgage with either equal payments over a fixed period of time or a line of credit. In either case, a variable rate of interest will accrue on the withdrawals, while the untouched balance will continue to compound at the same interest rate, replenishing the available credit line. With a lump-sum payout, the interest accrues at a fixed rate on the full amount from the get-go, and you eliminate the possibility of future payouts.
But if you just want to tap your equity as needed, the saver, with its lower cost and lower borrowing limit, may be a better option. "If you, as a prospective borrower, are asking, 'What does it cost?' rather than 'How much can I get?' the saver is for you," says Lewis, at Generation Mortgage.
Shop around. Making an apples-to-apples comparison of lenders' offerings may seem difficult, but you needn't be "bamboozled by the complexities," says Barbara Stucki, vice-president of home-equity initiatives at the National Council on Aging. Assuming you roll any costs into the loan, the bottom line for comparison is the principal limit. Online calculators, such as the one provided by AARP, will give you an idea of how much you'll qualify for. "Don't take the first reverse mortgage offered to you," says Stucki. Ask what other products and rates are available from the same company, and feel free to negotiate on costs.