Making Your Money Last

Reverse Mortgages Get Better

New rules allow seniors to borrow more and even buy a new home.

By Mary Beth Franklin, Senior Editor, Kiplinger's Personal Finance

October 29, 2008

Retirees concerned about their decimated savings should take a second look at reverse mortgages. Beginning November 1, 2008, homeowners everywhere may borrow up to $417,000. Previously, the Home Equity Conversion Mortgage program assigned various lending limits, ranging from $200,160 in rural areas to $362,790 in the most expensive housing markets. Existing reverse-mortgage borrowers may be able to refinance their loans to take advantage of the higher lending limit. Plus, the new rules cap the origination fee, previously set at 2% of the loan value, at $6,000.

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And, in a major policy change, retirees will be able to use a reverse mortgage to buy a new home starting in 2009. "This provision could really transform the industry," says Peter Bell, president of the National Reverse Mortgage Lenders Association, in Washington, D.C.

How it works

With a reverse mortgage, homeowners 62 or older can tap the equity in their home in the form of a lump sum, line of credit, monthly payout or a combination of all three. You retain the title to your property and must continue to pay property taxes, insurance premiums and home-maintenance costs. Payouts are tax-free, but the income you receive may make you ineligible for certain state and federal benefits, including Medicaid, which is a major payer of nursing-home costs.

A reverse mortgage need not be repaid until the last homeowner moves out or dies, at which point the home may be sold to pay off the debt. Interest and fees accrue over the lifetime of the loan and could wipe out any remaining equity. But the loan-repayment amount may never exceed the market value of the home; even if home prices decline, your heirs cannot be held responsible for any shortfall.

Retirement-income solution

John and Phyllis Harper decided to take out a reverse mortgage to tap the equity in their paid-off home near Denver, valued at about $300,000. They're using the money to finance about $60,000 worth of needed improvements and to boost their monthly retirement income. "We can do some extra things now, such as travel," says John, 75, who enjoys working in his home sculpture studio and cruising in his '82 T-top Corvette. "We discussed it with our children and they said, 'It's your money -- enjoy it,'" says Phyllis, 72.

As baby-boomers move into their retirement years with fewer pensions, inadequate savings and increasing health-care costs, reverse mortgages are well positioned to serve as a financial solution, says Brian Montgomery, commissioner of the Federal Housing Administration. Bell agrees. "We expect the growth of reverse mortgages to accelerate as seniors look for additional sources of income," he says, "and because the new provisions of the Homeownership Act of 2008 broaden the market and make them more attractive." To estimate the potential payouts and costs of a reverse mortgage -- which can be substantial -- and compare actual offers from several lenders, use the Reverse Mortgage Cash Calculator at Golden Gateway Financial (www.goldengateway.com).

Buying a new home

Although the Department of Housing and Urban Development hasn't officially announced the change, new rules allowing a reverse mortgage to be used to buy a home are expected to take effect January 1, 2009. Like traditional reverse mortgages, the maximum loan amount will be based on a combination of the value of the home, the homeowner's age and prevailing interest rates.

Say an elderly couple lives in an old, two-story house. The house needs repairs, and they're having a hard time negotiating the stairs. Instead of having to stay in a house that no longer meets their needs, they could sell the old house and use a reverse mortgage plus cash to buy a new, single-story home.

Here's how it works. Assume the couple's current home is worth $700,000, and they want to downsize to one that costs $500,000. If they pay cash, which many seniors choose to do, they'll have $200,000 left to live on. But if they use a reverse mortgage to cover some of the purchase price -- say, $200,000 -- and pay the $300,000 balance with proceeds from the sale of their old home, they'll double their cash reserve to $400,000 without ever having to worry about repaying the reverse mortgage while they live in the house.

Beware of scams

But reverse mortgages also have a dark side. In recent years, some unscrupulous lenders have pressured elderly borrowers into using their newfound cash to buy annuities and other financial products that imposed high fees and limited access to their money. The new rules prohibit lenders from requiring reverse-mortgage borrowers to purchase additional products or services as part of the loan agreement.

In a recent investor alert, the Financial Industry Regulatory Authority, or Finra, warned seniors to consider all of their options carefully before committing to a reverse mortgage. "Home equity is often a homeowner's most valuable asset and most precious source of retirement security," the Finra alert states. "Consider all the risks and explore all of your options before taking out a reverse mortgage, and even then, use the loan funds wisely."

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