When speaking with prospective clients, we find that they are often confused. They often ask – “a reverse mortgage loan requires no payments?” This doesn’t seem logical and may often sound like a scam as we were all brought up to believe that mortgage loans require some form of periodic payments. So just how does a reverse mortgage get repaid?
How Does a Reverse Mortgage Get Repaid?
During the life of the borrowers and in some case a non-borrowing spouse residing in the home the borrowers do not make any payments on the loan, hence the term “Reverse Mortgage”. The cash advances, both at origination and over the life of the loan, all interest, and other finance charges related to the reverse mortgage accrue to the mortgage balance owed to the lender.
At any time, the borrower or the non-borrowing spouse may pay off the accrued loan balance just as with any conventional mortgage loan, i.e. upon sale of the house or any other transaction the borrower engages in to pay off the mortgage. However, the borrowers may choose to stay in the home for the remainder of their lifetime. This can also include the lifetime of a non-borrowing spouse. If your spouse is a co-borrower of the loan, he or she can continue to live in the home and continue to receive the existing benefits as long without making any payments as long the home is maintained and taxes and insurance are paid. Repayment would not be required at that time until the last surviving spouse passes away or decides to move, at which time the loan balance would be due.
It is then, when either the borrowers move away from the house for an extended period, the house is sold or upon the death of the borrowers that the loan becomes due for repayment. So how does it get repaid?
In most cases, the home is sold, and the proceeds are used to pay off the loan. However, if the heirs want, they can retain the home and use whatever means available to repay the lender, including life insurance, other assets, or refinancing into a traditional loan. It doesn’t matter to the lender, if the loan is then paid.
Also, keep in mind that all remaining proceeds for a sale or liquidation beyond the amount that are owed belong to the borrower, or the estate if the borrower is deceased. In the case of the borrower’s death, the remaining equity can then be transferred to the heirs.
In most cases, the home is sold, but if the family wishes to retain the home, they can use whatever means available to repay the lender, including life insurance, other assets, or refinancing the HECM into a traditional loan. It doesn’t matter to the lender, if the loan is paid.
HUD requires the repayment conversation to be initiated with the lender/servicer within thirty days of the last surviving borrower’s permanent departure from the home or is deceased. Upon death, the executor of the estate will usually have six months to settle with the lender. Extensions can be granted by HUD for an additional six months.
In some cases, if the loan is not repaid by the estate or through a liquidation of the property, then the lender will then foreclose on the property to ensure repayment of the loan. This usually only occurs where the balance of the loan upon death of the last surviving spouse is greater than the value of the home. Since the reverse mortgage is an FHA Insured Non-Recourse Loan, the lender’s “recourse” is the net proceeds from the sale of the home, even though the borrowers owe more.
In summary, the loan is really repaid in one of several ways, 1) the borrower refinances or sells the property and repays the loan balance with the proceeds, 2) At end of life, the property is sold and the proceeds used to repay the loan balance, with the remaining equity, if any, distributed to the heirs, or 3) if the value of the home is less than the amount owed the lender usually takes possession of the property and sales the property to recover as much as possible of the loan balance.
What Does “Non-Recourse Loan” Mean?
Since the reverse mortgage is generally a Federal Housing Authority (FHA) Insured non-recourse loan, the lender’s ONLY “recourse” is the net proceeds from the sale of the home. So even if the borrowers end up owing more than the house is worth at end of life, the lender has no recourse against the borrowers, the estate or the heirs. Neither the client nor the estate or the heirs are responsible for repayment of the note, and no deficiency judgment can be taken either. In this case, the FHA mortgage insurance fund kicks in and will usually repay the lender for the portion of the loan balance in excess of proceeds recovered from a sale of the asset.
It makes a lot of sense that usually when the home is sold, the proceeds are used to finish paying off the loan. My parents are thinking about moving soon but they need to be really financially smart. I think it would be worth the money to talk to a financial advisor to get some advice.