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How do reverse mortgages work?

Reverse mortgages are only available to homeowners who are 62 or older. Lenders provide a loan that comes in the form of either a lump sum paid up front, steady monthly payments, or a line of credit. The borrowing limit depends upon factors like the borrower's age and the value of the home.

Unlike with a traditional mortgage, you aren't typically required to make payments on a reverse mortgage. However, you do still have to maintain the house, including paying taxes, HOA fees, and insurance on the property and keeping up with repairs. You are also charged interest each month on the borrowed amount, just as with a traditional lender.

As the interest accrues, this eats into the equity that you have left in the home. You own less and less of the house each year as you owe more to the reverse mortgage lender. When you move, sell, or die, the entire amount due has to be paid back at that time.

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Is a reverse mortgage worth it?

There is an undeniable benefit to a reverse mortgage. Seniors can stay in their house and get equity out of it, which can provide them with financial relief if they are house-rich and cash poor. Tapping into equity also doesn't add another monthly payment to their bills, which they'd likely want to avoid if they're already facing financial struggles.

Money provided by a reverse mortgage lender also typically comes tax free, giving seniors more to spend — and it doesn't impact Social Security benefits.

Unfortunately, though, there are some huge downsides including:

  • Costs and fees: Reverse mortgages are often much more expensive than traditional mortgages.
  • Upselling: The Federal Trade Commission warns that many sellers of reverse mortgages also try to convince seniors to buy other financial products, often with the money they get from the loan. These products may not be in their best interests.
  • Disappearing equity: Your balance grows every month you don't pay interest on a reverse mortgage. This eats away at your equity. You may end up having a very small ownership stake in your home so if you sell you'll walk away with very little. A large reverse mortgage balance also can make it difficult or impossible for your spouse to keep your home if you pass, or for your heirs to keep the family home after you die due to the amount that would need to be paid back after you're gone.

Before taking on a reverse mortgage, you need to be sure you understand these serious disadvantages -- and consider alternatives, such as downsizing to a less expensive property to cash in your equity. You'll also want to be 100% sure you know all the costs you're taking on, and not rush into a loan you don't really understand.

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Christy Bieber Freelance Writer

Christy Bieber a freelance contributor to Moneywise, who has been writing professionally since 2008. She writes about everything related to money management and has been published by NY Post, Fox Business, USA Today, Forbes Advisor, Credible, Credit Karma, and more. She has a JD from UCLA School of Law and a BA in English Media and Communications from the University of Rochester.

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