A reverse mortgage could provide much-needed funds for basic living expenses, medical care, and home maintenance. Nonetheless, reverse mortgages can be prohibitively expensive for some homeowners due to numerous fees.
A particularly burdensome expense is the mortgage insurance premium required by the lender (MIP). If you have a government-backed home equity conversion mortgage (HECM), you will pay an initial MIP at closing and annual MIPs for the duration of the loan.
• Reverse
mortgages can provide much-needed funds during retirement, but the high costs
associated with these loans make them an undesirable option for many
homeowners.
•The home equity
conversion mortgage (HECM), insured by the Federal Housing Administration (FHA)
and offered by FHA-approved lenders, is the most prevalent reverse mortgage.
• HECM borrowers
must pay an initial mortgage insurance premium (MIP) of 2% at closing in
addition to an annual MIP of 0.5% of the outstanding mortgage balance.
• HECM MIPs are
costly, but they provide important protections for borrowers.
• Due to the
open-ended nature of reverse mortgages, interest and fees may accrue for an
extended period of time before you or your estate can repay the loan.
What Is a Reverse
Mortgage?
A reverse
mortgage allows you to convert a portion of your home's equity into cash
without having to sell the property. You do not make monthly payments to a
lender; instead, the lender gives you a lump sum, a monthly amount, or a line
of credit in exchange for a portion of your home equity. Interest and fees
accrue over the life of the loan, which is due when the home is sold, vacated,
or the borrower dies.
To be eligible
for a reverse mortgage, you must be at least 62 years old, have significant
equity in the home, and reside in the home as your primary residence. You must
also attend a counselling session approved by the U.S. Department of Housing
and Urban Development if you obtain a HECM, the most common type of reverse
mortgage (HUD). After approval, you can use the funds for things like basic
living expenses, healthcare costs, home renovations, or even a new home if you
have a HECM for Purchase loan.
Some proprietary
reverse mortgages allow borrowers as young as 55 years old.
What Is Mortgage
Insurance?
With traditional
mortgages (sometimes referred to as forward mortgages), mortgage insurance
protects the lender, not you, in the event that you default on your mortgage
payments, die, or are otherwise it will be unable to meet the terms of the
loan.
MIPs and private
mortgage insurance (PMI) are not the same. If your down payment is less than
20% of the home's purchase price as well as you finance with a conventional
mortgage loan, private mortgage insurance is typically required. However, you
must pay MIPs if the Federal Housing Administration (FHA) guarantees your
mortgage. These include an upfront MIP equal to 1.75 percent of the loan amount
plus annual MIPs for minimum 11 years, regardless of your down payment size.
MIPs are
required for all HECM reverse mortgages. Most proprietary reverse mortgages do
not require upfront or annual MIPs, but their interest rates are typically
higher.
Reverse Mortgage
Insurance for Reverse Mortgages
Reverse
mortgages are insured differently than conventional mortgages. Instead of
merely protecting the lender, MIPs provide reverse mortgage borrowers with
several important assurances.
• A borrower
will receive loan payments in accordance with the loan's terms, even if the
lender ceases operations.
• When the loan
is due and the home is sold, you or your estate cannot owe more than the home's
value.
• If you or your
heirs decide to pay off the loan and keep the home (rather than selling it),
you will not owe more than the home's appraised value.
At closing, you
pay a 2% MIP based on the lesser of the FHA's maximum loan limit of $970,800 or
the home's appraised value. For instance, if the value of your home is
$250,000, the initial MIP would be $5,000 ($250,000 0.02). You can either pay
in cash or use funds from your loan.
After that, your
lender will assess annual MIPs equal to 0.5 percent of the loan balance.
Typically, these premiums accumulate over time, and you (or your estate) pay
the total when the loan is due.
What is the cost of
mortgage insurance?
If you have the
most common type of reverse mortgage, a home equity conversion mortgage (HECM),
your lender will charge you an up-front mortgage insurance premium (MIP) of 2%
of the appraised value of your home, up to the Federal Housing Administration's
maximum lending limit of $970,800. (FHA). After that, an annual MIP equal to
0.5% of the outstanding balance of your loan will be assessed.
Can a reverse
mortgage avoid mortgage insurance?
You can avoid paying
MIPs by obtaining a reverse mortgage with a proprietary lender. However, due to
higher interest rates, the loan may cost more in the long run. If you have a
HECM, however, you will owe upfront and annual MIPs.
However, in
exchange for those premiums, you receive a number of crucial safeguards.
Specifically, the loan proceeds are guaranteed (even though the lender goes out
of business) and you or your estate will not owe more than the home's value
when the loan matures and the property is sold.
Do reverse mortgages
incur closing fees?
Reverse
mortgages, like conventional mortgages, incur closing costs. For instance, if
you obtain a HECM loan, you will typically pay the following fees:
• Mortgage Insurance Premiums — an
initial MIP of 2% due at closing and an annual MIP of 0.5% of the balance outstanding mortgage balance
• Third-party expenses — such as
appraisal, title search, title insurance, surveys, inspections, recording fees,
mortgage taxes, and credit checks
• Origination fee — the greater of $2,500
or 2% of the first $200,000 of your home's value plus 1% of anything over
$200,000, up to a maximum of $6,000
• Servicing fee — monthly fee up to $30 and with an annually
adjusting or fixed interest rate loan, and monthly fee up to $35 if the
interest rate adjusts monthly.
The Bottom Line
HECMs require
upfront and annual MIP payments. Unlike traditional private mortgage insurance,
which protects the lender, reverse mortgage insurance benefits the borrower.
If you decide
that a reverse mortgage is right for you, shopping around and comparing loan
costs could save you money. Although all lenders charge the same MIPs, the
origination fees, servicing fees, closing costs, and interest rates varies by
lender.
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