Reverse mortgages: How much do they really cost?
How does a reverse mortgage work?
- Receive cash for the equity you have built in your home
- Over time, your equity decreases, and the value of your estate reduces
- Reverse mortgages carry many of the same costs as a conventional mortgage
- Maintain your home, and pay insurance and taxes to avoid having the loan come due early
A reverse mortgage is a financial product that allows seniors aged 62 and older to tap into the equity built up in their homes. A reverse mortgage is a loan, but it behaves differently from a standard, forward loan, where the borrower makes payments on the principal plus interest until it is paid off. With a reverse mortgage, the borrower receives payments from the lender, either in a lump sum or monthly installments. More than 95 percent of reverse mortgages are Federal Housing Administration-backed home equity conversion mortgages (HECMS).
Once you’ve weighed the pros and cons of a reverse mortgage and decided it’s the right decision to help you — or your parents — cover expenses while living at home, the next step is to understand the true costs of a reverse mortgage so you can confidently assess your finances and compare lenders.
- Appraisal fee. Your lender will assign an appraiser to determine the value of your home. This typically costs $400 to $500 for an initial appraisal, with an additional $100 to $200 charge for any follow-ups due to repairs or renovation.
- Origination fee. The mortgage lender’s origination fee depends on the value of your home. The FHA restricts origination fees to no greater than 2 percent of the first $200,000 of the home value and then no greater than 1 percent of the amount beyond. Additionally, origination fees cannot exceed $6,000, no matter the value of the home.
- Upfront mortgage insurance premium (MIP). The FHA charges a 2 percent insurance premium upon closing the reverse mortgage. There is also an annual mortgage insurance premium to be paid, at a rate of 0.5 percent a year.
- Closing costs. As with any mortgage, there are several closing costs associated with a reverse mortgage. These can include, but are not limited to: fees for documentation preparation, recording and dispatch; pulling your credit report; flood certification; escrow; title insurance; and further fees for lead-based paint or pest checks. Closing costs can set you back $500 to $1,600, depending on your home and state.
The good news is that many of these costs do not need to be paid up front and can instead be deducted from the reverse mortgage amount. Discuss and compare with lenders what options are available for rolling initial costs into the loan.
- Interest. The interest on a reverse mortgage is not charged each month, rather it accrues as you receive payments and will need to be paid when the loan becomes due. Reverse mortgage rates can be either fixed or variable.
- Ongoing MIP. In addition to the up-front FHA MIP, you will accrue annual insurance costs of 0.5 percent of the remaining loan balance. As with closing costs, the insurance charge does not need to be paid until the loan itself becomes due.
- Servicing fee. The lender charges monthly fees for maintaining the loan, usually no more than $35 per month.
- Home maintenance and associated fees. Beyond fees strictly related to the reverse mortgage, a borrower is expected to keep their home in good condition, pay for insurance coverage, and stay current on all property taxes and any homeowner association fees. These are likely costs you already budget for, but it is important to keep on top of such expenses. Failure to comply with them can force the loan to become payable earlier than planned.
In addition to initial and ongoing costs, remember that a reverse mortgage decreases your equity in your home and will impact the value of your estate. This is important to keep in mind if you plan to later distribute any earnings from the sale of your home to your children or heirs.