Reverse mortgages can be costly as seniors cash in on equity

When faced with dwindling savings and mounting debt, elderly homeowners often consider a reverse mortgage for a cash infusion or to wipe out a monthly home mortgage payment. These days, some seniors also are using them to help stave off home foreclosure.

A reverse mortgage is essentially a loan that lets seniors 62 or older convert home equity into cash. They don't have to repay the loan as long as they stay in their home. Interest payments and fees are most often paid when the home is sold or the homeowner dies.

Helen Yomine, an 86-year-old widow in Lake Forest, Ill., recently applied for a reverse mortgage because her home, valued at $410,000, was about to go into foreclosure. Her reverse mortgage paid off her home mortgage and taxes she owed, leaving her with no monthly payments.

She still owns the home but will have to repay the loan, closing costs and interest when she sells it. If she stays in the home until she dies, the reverse-mortgage lender will be repaid when the house is sold.

"It's a scary time when you're alone and don't have anyone to lean on," she says. "But the reverse mortgage will give me comfort and the ability to stay in my home until I die."

That doesn't mean a reverse mortgage is right for everyone. They can be costly and complicated in multiple ways.

Aggressive marketers often take advantage of vulnerable homeowners, who can end up paying more than they should for a product that doesn't work for them, says Sen. Claire McCaskill, D-Mo. She sponsored a bill to help protect seniors from predatory reverse-mortgage lending. It became law in July.

But during an economic crisis, reverse mortgages grow in popularity.

Before rushing into a reverse mortgage, it's important to educate yourself and learn about recent changes in the federal program that's officially called the Home Equity Conversion Mortgage Program. It is run by the Federal Housing Administration and insured by the federal government.

Among recent changes:

Maximum loan

This year, the maximum reverse-mortgage amount was raised from $417,000 to $625,500. The loan change was tied to the economic stimulus package, so it is only scheduled to last until year's end. It is not clear if it will be extended.

For now, this allows more elderly families to borrow enough money from a reverse mortgage to save their home from foreclosure.

"Our hope was that by raising the limit, more homeowners facing foreclosure and living in higher-valued homes might be able to take out a reverse mortgage and keep their homes," says Bronwyn Belling, director of the Reverse Mortgage Education Project for the AARP Foundation.

But even if you rush to get a reverse mortgage this year, you may not get the maximum loan amount. That's because your loan amount is based on several factors that include the home's value and your age.

Origination fees

You must pay a one-time fee for the paperwork and processing of your loan. But last year, the government reduced such origination fees.

Before the change, homeowners paid a 2% fee on the loans. Now they pay 2% on the first $200,000 and 1% on any amount over that, with the fee capped at $6,000.

That's good news, but keep in mind that origination fees are only a small part of the expenses. "The costs are still pretty staggering for someone who hasn't looked at it closely," Belling says.

In addition to the lender's origination fee, the upfront fees include a reverse-mortgage insurance premium, and standard closing costs — plus there's a monthly servicing fee and interest.

"If I were a consumer, I would focus more on the interest rate," says Meg Burns, director of the Federal Housing Administration Single Family Program Development. "That's an expense that is paid out over the long term of the loan, and it's a place where the product could be costly."

Most HECM fees do not have to be paid upfront, but if not, they are paid when the house is sold — either at voluntary sale or upon death of the homeowner.

Home purchase

Starting this year, elderly homeowners can use an HECM loan to sell their current residence and buy a new one in a single transaction. That helps families who want to downsize, move to a retiree community or move closer to family members.

"It's available, and we have closed a couple of purchase loans," says Jeff Lewis, chairman of Generation Mortgage, a reverse-mortgage lender. It's been difficult to do, because in many parts of the nation, home values have plummeted.

"But I think it is going to start to be very active as home prices stabilize," he says.

Cross-selling

Another concern in the past centered around lenders who sometimes sold other financial products in conjunction with reverse mortgages.

McCaskill's legislation does not allow a lender to "cross-sell" anymore.

The goal is to prevent a homeowner from being pressured into taking out a reverse mortgage and using the money to buy a deferred annuity, which gives a high commission to the salesperson.

But the financial industry complains that the change will prevent them from providing seniors with the best advice.

Some financial planners who specialize in advice for senior citizens offer an array of services and products to help them hold onto their nest eggs.

But the legislation apparently prevents them from including a reverse mortgage, even though that can help retirees afford products such as long-term care insurance, Lewis says.

Nothing prevents retirees from learning more about reverse mortgages and making sure that it is their best financial option.

AARP offers a free consumer guide, "Reverse Mortgage Loans, Borrowing Against Your Home," that can be downloaded at www.aarp.org/revmort.

To make sure that you are considering all of your retirement options, you can visit the website decumulation.org, which is offered by the National Endowment for Financial Education, a non-profit foundation.

That can help you make sure that a reverse mortgage is a wise decision.

"It is just one part of a retirement strategy," says Brent Neiser, director of Strategic Programs and Alliances for NEFE. "It has its own set of cost and issues. And it should be one of the last options for supplementing your retirement paycheck."

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