How Does a Reverse Mortgage Work?

Who Can Get a HECM: What to Know First

Age comes first. Under 24 C.F.R. § 206.33, "the youngest borrower shall be 62 years of age or older at the time of loan closing." The statute behind the program, 12 U.S.C. § 1715z-20(b)(1), defines an elderly homeowner as one "who is, or whose spouse is, at least 62 years of age or such higher age as the Secretary may prescribe."

The other conditions build on that:

• Principal residence. Under 24 C.F.R. § 206.39(a), the home must be the principal residence of each borrower, and of any Eligible Non-Borrowing Spouse, at closing. The CFPB describes a principal residence as where the owner lives the majority of the year.
• Property type. The statute requires a home "designed principally for a 1- to 4-family residence in which the mortgagor occupies 1 of the units." HUD sets which other property types qualify, such as certain condominiums, and the home must meet FHA property standards.
• Enough equity. The CFPB explains that the owner must own the home outright or have a low mortgage balance that can be paid off at closing, with the owner's own funds or reverse mortgage money. The lender and FHA rules decide whether the equity is enough.
• No federal debt. The borrower cannot owe federal debt, such as federal income taxes or federal student loans, though reverse mortgage money may be used to pay it off.
• Money for ongoing charges. The borrower needs enough funds, or agrees to set aside part of the loan at closing, for property taxes, insurance, maintenance and repairs.
• Counseling. Under 12 U.S.C. § 1715z-20(d)(2)(B), the borrower must receive counseling from an independent third party not associated with or paid by anyone originating, servicing or funding the loan, or selling annuities, investments, long-term care insurance or other financial products.

A spouse who is not on the loan may, under HUD's rules, qualify as an Eligible Non-Borrowing Spouse and stay in the home after the borrower dies, if certain conditions are met. Not knowing yet whether these rules fit a household is expected; working through eligibility is part of what the counseling session does.

How the Money Can Be Received

Picture the loan as a pool of available money that can be paid out in different shapes. The statute, 12 U.S.C. § 1715z-20(d)(9), lets the borrower choose a line of credit, monthly payments over a set term, monthly payments over the borrower's tenure, a term or tenure plan combined with a line of credit, or any other basis HUD approves. The CFPB describes the main choices this way:

• Lump sum. All available funds at once, at a fixed interest rate. The CFPB notes the amount may be lower, the cost higher, and younger borrowers may outlive the funds.
• Term payments. Fixed monthly payments for a set number of years.
• Tenure payments. Fixed monthly payments as long as the borrower keeps the reverse mortgage and the payments do not push the balance past the amount stated in the mortgage.
• Line of credit. Draws as needed, with interest and fees only on what is used. The unused portion grows over time, up to a maximum stated in the mortgage.

Monthly payments and a line of credit can be combined. The statute generally lets a borrower change payment plans later, though for a fixed-rate loan HUD may limit that.

How much may be available depends, according to HUD, on the age of the youngest borrower or Eligible Non-Borrowing Spouse, the current interest rate, and the lesser of the appraised value, the HECM FHA mortgage limit or the sales price. HUD publishes the current limit. HUD's HECM Calculator Software can illustrate how these factors interact; any result is an illustration for learning, not an offer.

Costs, Fees, and Why the Balance Keeps Growing

This is the part worth slowing down for, because the costs shape what is left in the home later. A HECM carries several kinds of charges:

• Mortgage insurance premiums. An upfront premium and an ongoing annual premium, which is added to the balance. FHA sets the rates, and the lender discloses them.
• Origination fee. The lender's charge for making the loan. Federal rules limit it, the statute allows it to be fully financed into the loan, and the lender discloses the amount.
• Third-party closing costs. Charges such as the appraisal and title services.
• Servicing fees. Charges for managing the loan over its life.
• Interest. Charged on the balance and added to it each month.

The statute and regulations set limits, not prices. A federal maximum is a ceiling, not the amount a borrower pays.

Because interest and fees keep adding to the balance, the debt rises over time and the equity falls. The Federal Trade Commission warns this "can use up much – or even all ─ of your equity."

The law requires clear cost information. Under 12 U.S.C. § 1715z-20(d)(2)(C), the borrower must receive full disclosure of all costs, stating which are required and which are not. Before closing, the lender must provide a statement of the projected total cost, and each year, by January 31, a statement of what was paid out, interest added and the balance, under § 1715z-20(e). The FTC also notes that a borrower does not have to buy any other financial product to get a reverse mortgage.

When the Loan Comes Due: What Happens to the House

For families, this is often the heart of the question: what happens to the house? Under 24 C.F.R. § 206.27(c), the balance becomes due when a borrower dies and the home is not the principal residence of another surviving borrower, subject to a deferral for an Eligible Non-Borrowing Spouse, or when the borrowers convey all title. The CFPB summarizes that a HECM must be paid off when the last surviving borrower or Eligible Non-Borrowing Spouse dies, sells the home, or no longer lives there as a principal residence.

The loan can also come due earlier, with HUD's approval, under that same regulation, including when the borrower is away for more than 12 consecutive months because of physical or mental illness and no other borrower lives there, does not pay property charges such as taxes and insurance, or fails another obligation under the mortgage. The lender's closing statement explains all conditions requiring repayment.

Heirs usually repay by selling the home, the CFPB notes. Family members who wish to keep it would need to pay off the loan another way, such as with other funds or a new loan. The servicer and HUD give specific guidance on timing after a death.

A key protection is that a HECM is non-recourse. Under 12 U.S.C. § 1715z-20(d)(7), the homeowner is not liable for any shortfall between the debt and what the lender recovers from the net sale proceeds or the FHA insurance benefits. The FTC puts it as owing no more than the home's value when the loan becomes due and the home is sold.

The CFPB also notes that with most reverse mortgages, a borrower has three business days after closing to cancel for any reason, without penalty, known as the right of rescission.

For families, knowing this early — not after a death or a move — makes the conversation much easier.

Other Paths Worth Knowing About

A reverse mortgage is one tool among several for a homeowner who is house rich and cash poor. The counseling protocols in 12 U.S.C. § 1715z-20(f) require counselors to discuss options other than a HECM, including other housing, social service, health and financial options, and to disclose that a HECM may have tax consequences, affect eligibility for federal and state assistance, and affect the estate and heirs. Other paths include:

• A budget and benefits check. The CFPB notes state and local programs may help with utilities, fuel and home repairs. It trades time spent applying for no new debt.
• Property tax relief. The CFPB suggests checking with the county or town tax office. Programs vary by place.
• Help from family. It keeps the home free of a loan but depends on family means and agreement.
• Selling or downsizing. It frees equity but means leaving the home.
• A home equity loan or line of credit. Each adds a monthly payment, unlike a reverse mortgage; see the reverse mortgage vs. HELOC comparison.
• A cash-out refinance. A new, larger mortgage with its own monthly payment.
• Waiting. The CFPB cautions that borrowing too young may mean running short later.

A reverse mortgage is not the right fit for every homeowner, and the counseling session is the place to work through whether it fits. HUD's counselor roster can be searched online, or reached at (800) 569-4287.

Seeing the full picture of options, side by side, is what the required counseling session is designed to help with.