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How a Reverse Mortgage Can Unlock Extra Cash for Retirement
By Mallika Mitra MONEY RESEARCH COLLECTIVE
Owning a home is considered a key part of the American Dream, and paying off that home is a long-term goal for families across the country. But reverse mortgages, where you’re borrowing against your home, can help you get closer to another milestone: a comfortable retirement.
While reverse mortgages had a reputation as a risky product because of past practices, today there are stronger consumer protections, and financial advisors say they can be a smart move for older Americans looking for a bit of extra cash.
Whether you’re trying to diversify your retirement funds, need extra money to cover your bills, or simply want to stay in your home after you’ve lost the income from your nine-to-five job, this financial tool may be worth considering.
Read on to learn how a reverse mortgage can unlock cash for retirement, plus the ins and outs of how these unique loans for older homeowners work.
What is a reverse mortgage and how does it work?
Like a traditional mortgage on a home, a reverse mortgage allows you to borrow money from a lender using your home as collateral. But unlike with a traditional mortgage, you aren’t required to make monthly payments when you take out a reverse mortgage. Instead, you (or your heirs) pay back the money when you no longer live in the home, often by paying off the balance with a traditional mortgage or selling it.
The balance that you owe the lender grows in reverse — hence the name — of how it does when you take out a traditional “forward” mortgage: Since you’re not paying down the loan amount, it grows with interest and fees over time. With a traditional mortgage, of course, the balance decreases as you make those monthly payments.
The lender will allow you to take your loan proceeds from a reverse mortgage either as a lump sum, regular monthly disbursements, a line of credit, or a combination of these. And the interest rate they charge can be fixed or variable, depending on the specific product- and disbursement-type. If, for example, you’re going to take a loan with a fixed interest rate, you’ll need to receive the money as a lump sum. The total amount you can borrow with a fixed-rate loan is likely less than what you’d get with a variable-rate loan, according to the Federal Trade Commission.
The most common type of reverse mortgage is a Home Equity Conversion Mortgage (HECM), which is insured by the Federal Housing Administration (FHA) and only available to people aged 62 or older. There are specific borrower and property requirements laid out by the administration, including that the home has to be your primary residence. One difference between reverse mortgages and other loans that use your home equity as collateral is that many reverse mortgage lenders have no minimum income or credit score requirements.
Worried about the poor reputation that reverse mortgages have traditionally had? The government has strengthened the regulations around these loans in recent years, and you have to meet with a third-party, HECM counselor before you get one to ensure you fully understand the implications and alternatives.
How can a reverse mortgage provide retirement cash?
Between the rising costs of housing and health care — and the fact that people are living longer than ever — it’s getting increasingly expensive to retire. Wealth management company Northwestern Mutual recently put the amount of money Americans think they’ll need to retire at $1.46 million, while Charles Schwab reports it’s closer to $1.8 million. Even if you diligently squirreled away money throughout your working years and plan to take Social Security, that’s an intimidating number.
A reverse mortgage could help fill a gap in your savings plan. Say you have a $1,827 monthly mortgage payment, which is the national average as of September 2024, according to Zillow. That amount may be manageable on top of groceries, gas, utilities and your other bills when you’re earning a steady salary, but it’s likely to become more difficult once retirement hits. With a reverse mortgage, you could get between 40% and 60% of your home’s value, use that loan to pay off the existing mortgage and then use that $1,827 each month to cover your other bills.
Even if you’ve built up a nest egg that should carry you through your golden years, a reverse mortgage can give you more flexibility with your cash flow. For example, while an investment portfolio is ideally diversified enough to weather the ups and downs of the financial markets, a significant drop in asset prices could put you in a position where you have to sell at a loss — a spot no investor wants to be in. A reverse mortgage can provide a cushion so that if prices fall, you can use the money from the loan while you wait for the market to steady.
The risks of a reverse mortgage
Reverse mortgages can help you unlock extra retirement income, but they’re certainly not for everyone. It’s important to be aware of both the pros and cons of reverse mortgages before taking out a loan.
For one, a reverse mortgage can be expensive, though the costs will vary by lender. The upfront costs can include origination fees (which are capped at $6,000 for HECMs), an initial mortgage insurance premium and closing costs like for an appraisal or inspection, according to the Consumer Financial Protection Bureau. But these upfront costs can be wrapped up into the loan balance to avoid having to pay out-of-pocket. Interest and other fees are then added to the loan balance each month, and you’re still responsible for property taxes, homeowners insurance and other costs like homeowners association (HOA) fees.
Overall, reverse mortgages can be more expensive than a home equity loan or home equity line of credit (HELOC) — though with these financial products you will have to make monthly payments. Interest on a reverse mortgage also isn’t tax deductible until you pay the loan back.
Reverse mortgages do not affect your Social Security benefits. But they can impact your eligibility for need-based government benefits like Supplemental Security Income or Medicaid, since a lump sum will likely count as an asset, and these government benefits have asset limits.
Finally, these arrangements can create a challenge for other family members. In 2021, the government enacted stronger protections for spouses living in the home who weren’t listed on the loan agreement but, those who don’t meet the spouse requirements and other people living in the home — like children — may need to move out when the borrower dies or leaves the home (like for a long-term care facility). A reverse mortgage also complicates leaving a home to heirs; with HECMs, the loan becomes due immediately once the loan conditions aren’t met. Your heirs will then have six months to pay the debt, although extensions of up to six additional months can be requested through the loan servicer and must be approved by the Department of Housing and Urban Development.