A reverse mortgage differs from a traditional mortgage in that the borrower must be at least 62 years old. This type of loan has vastly reduced qualifying standards, and no loan payments are required as long as the borrower lives in the home. A reverse mortgage is identical to a traditional mortgage in that the home secures the loan, the loan amount is partly dependent on the home's value and it can be sold at any time. But, unlike a borrower with a traditional mortgage -- who may choose to buy and sell homes several times or more over the course of his life -- a borrower with a reverse mortgage usually won't sell his home, until he's ready to move to a retirement or nursing home.
Loan Balance Limits Choices
While monthly payments reduce a traditional mortgage's balance, the loan balance associated with most reverse mortgages grows, because the borrower pays neither the interest nor the principal. A borrower can make payments if he desires, but it's not required, and most borrowers don’t. The reverse mortgage loan balance grows exponentially as deferred interest accumulates on the principal balance every month -- in the same way compound interest can balloon savings. With a large loan balance, a reverse mortgage borrower is left with less equity and take-home money at sale than a traditional mortgage borrower.
A reverse mortgage comes due when the borrower moves out of the home for 12 months, sells the home or dies. In the first circumstance, unless the borrower can pay off the loan, the home must be sold to repay the loan. Because many reverse mortgage borrowers don't have substantial savings -- one of the reasons they take out a reverse mortgage -- if they move, they're forced to sell their homes.
Sale by Heirs
Both reverse and traditional mortgage borrowers can leave their homes to heirs. But, whereas mortgage lenders are required by federal law to allow relatives to take over a traditional mortgage immediately, reverse mortgage lenders allow repayment to start within one year. Heirs have the choice of repaying the reverse mortgage loan balance or selling the home to repay the loan. Because reverse mortgage loan balances are frequently high relative to home value, some heirs choose to sell the home.
What Happens at Sale
If the home is sold for a price exceeding the loan balance and associated costs, the borrower or her heirs are entitled to the balance. A reverse mortgage is a nonrecourse loan. This means the borrower isn't personally responsible for repayment. So, if the sales price is less than the loan balance, neither the borrower nor her heirs have to repay the difference. Instead, mortgage insurance repays the lender the unpaid balance.
Mary Gallagher runs Mary Gallagher Planning (mgaplanning.com), an urban planning and consulting business in San Francisco. She is the former assistant planning director for San Francisco and planning director for San Mateo. Gallagher has been writing about real estate, development and land use for numerous websites since 1995. She holds a master's degree in historic preservation planning from Cornell University.