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Ultimate Guide to Reverse Mortgages

Types Of Reverse Mortgages

There are two types of reverse mortgages you can take advantage of.

Home Equity Conversion Mortgage

HECM (pronounced HEKUM) is the commonly used acronym for a Home Equity Conversion Mortgage, a reverse mortgage created by and regulated by the U.S. Department of Housing and Urban Development.

A HECM is not a government loan. It is a loan issued by a mortgage lender, but insured by the Federal Housing Administration, which is part of HUD.

FHA collects a Mortgage Insurance Premium (MIP) at closing that equals two percent of the home’s appraised value or FHA lending limit ($679,650), whichever number is less. FHA also collects an annual premium equal to 0.5 percent of the outstanding loan balance. Your loan balance thus increases by the amount of this fee.

The insurance purchased by this fee protects the borrower “(1) if and when the lender is not able to make a payment; and (2) if the value of the home upon selling is not enough to cover the loan balance. In the latter case, the government insurance fund pays off the remaining balance.”

Currently, HECMs make up most reverse mortgages offered in America. HECMs come with rules and regulations that include a requirement that the borrower receive third-party counseling.

Proprietary Reverse Mortgage

Proprietary reverse mortgages are privately insured by the mortgage companies that offer them. They are not subject to all the same regulations as HECMs, but as a standard best practice, most companies that offer proprietary reverse mortgages emulate the same consumer protections that are found in the HECM program, including mandatory counseling.

Proprietary reverse mortgages are sometimes called “jumbo” reverse mortgages, because they are taken on higher-valued homes. The maximum loan limit on a Home Equity Conversion Mortgage is $679,650, so if you own a home worth several million dollars, you may be able to get more funds from a proprietary reverse mortgage.

Financial Assessments: The Most Important Step To A Reverse Mortgage

Lenders must conduct “financial assessments” of every reverse mortgage borrower to ensure that person has enough money to pay ongoing costs, such as property taxes and homeowners insurance, over the life of the loan.

Lenders examine the borrower’s sources of income, such as Social Security, pensions and investments. Borrowers must provide certain documents, such as tax returns and bank account statements.

Any credit trouble will have to be explained. The lender must determine whether the explanation qualifies as an “extenuating circumstance” in getting the loan approved.

The financial assessment determines whether the lender must set aside a certain amount of money to pay for property taxes and other expenses over the course of the loan. The “set aside” reduces the amount of loan proceeds available to the borrower.

To figure whether a set-aside is required, the lender subtracts property charges, debt obligations and other living expenses from the borrower’s income and assets. The resulting “residual income” is the amount of money left over each month. This figure is compared to a government threshold amount (based on region and family size) that determines whether a borrower has enough monthly residual income to pass the assessment.

If the borrower passes the financial assessment, they can proceed with the getting the loan. If, however, the lender determines that the borrower does not have adequate cash flow, the borrower’s loan application can be declined, or all (or most) of the available loan proceeds will be placed in a Life Expectancy Set-Aside and used specifically to pay property taxes and homeowners insurance for as long as those funds last.

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