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Archive for Sunday, May 2, 2004

Consider a reverse mortgage before interest rates increase

May 2, 2004

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How much money could you get with a reverse mortgage on your home?

That depends on lots of factors, such as your age and the home's value. But one thing is fairly certain: the lower the interest rate, the more you can get.

So if you are considering a reverse mortgage, best get moving. Interest rates are rising already and may well go up more in coming months. That would reduce the cash you could get from a reverse mortgage.

If all this is gibberish, here's a quick primer on reverse mortgages.

Like ordinary mortgages, the reverse variety are loans that use the borrower's home as collateral.

The loan can be taken as a lump sum, a line of credit or a monthly payment. (It can be paid off early, if you choose.)

But unlike an ordinary mortgage, the borrower makes no monthly payment on a reverse mortgage. Instead the debt builds up and is paid off only after the home is sold, either before or after the owner's death. Since there are no monthly payments to make, the borrower does not need an income to qualify for one of these loans.

The lender cannot force a sale during the borrower's lifetime (though a sale would be required if the borrower's heirs do not pay off the loan with other money). The borrower is sure of being able to stay in the home for life.

Also, the value of the property always will be considered sufficient to pay the debt -- even if the value falls after the loan is taken out. When you or your heirs sell, the proceeds will be enough to pay off the loan.

This makes reverse mortgages attractive to elderly homeowners who need cash.

Obviously, the reverse-mortgage lender faces some special risks. The property could fall in value to less than the debt, for example. Or the borrower could live so long that the built-up debt would be greater than the property's value. Either way, the lender would lose money.

To reduce the risk, the mortgage company limits the loan to just a portion of the property's appraised value. An older homeowner can get a bigger loan than a younger one, since it's less likely an older borrower will live so long that the debt will grow bigger than the home's value.

Also, a borrower can get more when interest rates are low. That's because the interest owed will grow more slowly, making it less likely the debt will ever exceed the property value.

The effect can be quite dramatic. A 75-year-old owner of a $150,000 home in Philadelphia might be able to borrow about $90,000 at current interest rates. Were the rate to rise 2 percentage points, the same borrower might get only $70,000.

That's why it's worth looking into the possibility now. Once your loan is approved, you've locked in the maximum loan amount -- even if interest rates rise later.

Once you get a reverse mortgage, the interest rate will adjust every month or once a year, depending on the option you choose at the start. If rates rise, your debt will grow faster. There are limits on rate increases, so it's good to start at a low rate.

The big drawback to reverse mortgages is high fees, which can approach 10 percent of the loan amount.

And these things are hard to understand. That probably explains why they've never really taken off.

Before getting one, consider some alternatives.

If you do have an income, look into a home equity loan. The interest rate might well be higher, but the upfront fees would be substantially lower.

Of course, it might be best to sell the property and buy a cheaper one, pocketing the difference.

For information, contact AARP at (888) 687-2277, www.aarp.org/revmort/. The National Reverse Mortgage Lenders Assn. has lots of information and a useful calculator at its Web site that can provide a rough idea of how much you might be able to borrow: www.reversemortgage.org. Or call (866) 264-4466.

The U.S. Department of Housing and Urban Development has a good site at www.hud.gov/buying/rvrsmort.cfm.

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