How the Housing Law Affects Reverse Mortgages

Most seniors should be cautious.

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The housing bill signed by President Bush on July 30 raises the amount seniors can borrow using federally backed reverse mortgages and lowers the cost of getting the cash. But aging experts say you should still be cautious before spending down your home equity.

Here's how the new law affects reverse mortgages and what you still need to be wary of.

Instant cash—with strings. A reverse mortgage is a loan against your home if you're generally age 62 and over that doesn't have to be paid back as long as you live in that house. Tapping home equity to finance your golden years is growing in popularity, with 107,367 reverse-mortgage loans made in fiscal year 2007, up from 6,600 loans in 2000, but they still account for only about 1 percent of older households, according to the AARP. After you pay a variety of fees on the loan, you can get a lump sum, monthly payments, a credit line, or a combination of these options based on the value of your house. If the home is sold, the loan must be repaid with the proceeds, and any equity that remains after that is distributed to the borrower.

Know the limits. Most reverse mortgages are home equity conversion mortgages, which are backed by the Federal Housing Administration, so you'll still get your money even if the lender goes under. (The other two types are private loans and single-purpose reverse mortgages offered by some state and local government agencies and nonprofit organizations.) FHA limits the amount you can borrow with a HECM, which ranges from $200,160 to $362,790, depending on the county you live in. The new housing law, which will take approximately 60 to 90 days to implement, creates a single national loan limit of $417,000 that can increase to as much as $625,500 in high-cost areas.

Avoid fees. High cost is the reason 63 percent of reverse-mortgage shoppers ultimately decided against applying for the loan, according to a December 2007 AARP survey. And 69 percent of actual borrowers agreed that costs were high. The origination fees lenders can charge are currently capped at 2 percent of your home's value or the county lending limit, whichever is lower. The housing bill recently reduced the maximum fee to 2 percent on the initial $200,000 of the home's value and 1 percent on the balance thereafter, with a cap of $6,000. But some lenders charge less, so it can pay to shop around and negotiate on the fees charged. Also, bargain on closing costs, service fees, mortgage insurance premiums, and interest rates.

Get counseling. In order to qualify for a HECM, you must discuss the loan with a loan counselor employed by a nonprofit or public agency approved by the U.S. Department of Housing and Urban Development. "You should take the counselor very seriously and be very forthcoming with the counselor so that the counselor can help you do a thorough job of making sure that a reverse mortgage is really the answer for you," says Peter Bell, president of the National Reverse Mortgage Lenders Association, an organization that represents the reverse-mortgage industry. Barbara Stucki, director of home equity initiatives for the National Council on Aging, recommends spending an hour or longer discussing the loan. The counseling is free or has a minimal cost. You can find a local housing counseling agency by calling (800) 569-4287. The Financial Industry Regulatory Authority recommends verifying the independence of counselors recommended by your lender by asking whether they receive any funding from the lender or the mortgage industry.

Be wary of sales pitches. Nine percent of reverse-mortgage borrowers said their lenders offered them specific financial products like annuities and long-term-care insurance, which may be unwise investments depending on the purpose of the loan, the AARP survey found in late 2007. The new housing bill prohibits requiring the purchase of annuities and other financial products. But it never hurts to be cautious of any financial product someone is trying to sell you. "I think seniors still need to be careful that they are not talked into a loan that they don't really need," cautions Stucki. But if cash is a necessity, seniors should crunch the numbers on a traditional second mortgage and downsizing to cheaper housing alongside a reverse mortgage to parse the best deal.