Americans aged 62 and over may qualify for a reverse home mortgage to provide them with an additional source of income at a time when Social Security may not be enough. Reverse mortgages can be a good source of money to pay off an existing mortgage, pay for age-in-place home improvements, or to avoid taking out riskier personal loans to cover medical bills or potential foreclosure.
Reverse Mortgage Requirements and Tax Benefits
The guiding requirement for a reverse mortgage is that the borrower must remain in the home. If they are relocated to a nursing facility or care home, repayment on the loan begins within a year. If the borrower or heirs plan to retain ownership, they must pay off the principal and interest on the reverse mortgage. It's important to note that the final payout includes interest and fees. Reverse mortgages come with upfront closing costs, lender's loan origination fees and mortgage insurance. Since not all reverse mortgage lenders are alike, it's wise to obtain multiple offers before making a decision. If the property is sold, the heirs can recover any additional funds that do not go into paying off the mortgage and related costs.
There are federally insured reverse mortgages, regional and local government single-purpose reverse mortgages, and private loans. A commonly sought reverse mortgage is the Home Equity Conversion Mortgage (HECM), a federally-backed loan offered by FHA-approved lenders. More than 90 percent of homeowners seeking a reverse mortgage receive an HECM. For seniors seeking additional income, the greatest benefit from a reverse mortgage is that the funds are not taxed by the Federal government.
According to the Internal Revenue Service, a reverse mortgage is a loan and consequently is not treated as income. The tax regulations are the same, whether the homeowner receives a line of credit, a monthly payment, a lump sum or a combined payment. The IRS' Home Mortgage Interest Deduction stipulates that any mortgage interest deduction on a reverse mortgage be withheld typically until the loan is retired and all interest collected. If the property is sold by the heirs to pay off the mortgage, they may benefit from the deduction at that time. However, the deduction is capped by a Federal ceiling on a loan value of $100,000.
Potential Downsides to a Reverse Mortgage
The upside of a reverse mortgage includes retaining home ownership while receiving increased retirement income. But borrowers should meet with a HUD-approved reverse mortgage counselor (1-800-569-4287) to crunch the numbers. If borrowers fail to pay property taxes and homeowner's insurance – or if they fail to make needed repairs – they could lose their home. A reverse mortgage may not provide the best option for seniors who might otherwise take out a lower cost HELOC line of credit
Qualifying for a reverse mortgage is relatively easy. The home must be the borrower's primary residence and most of the current mortgage should already be repaid. A warning note: If the spouse of the homeowner does not sign up as a co-borrower, the spouse will be evicted or required to pay back the loan, interest and fees if the homeowner dies.