Key Takeaways
- A reverse mortgage is a loan for homeowners aged 62 and older to convert home equity into cash income.
- Single-purpose reverse mortgages require the loan to be used for specific lender-approved expenses.
- These loans can cover costs like property taxes, home maintenance, or insurance premiums.
- Other types of reverse mortgages offer more flexibility but often come with higher costs.
- Failure to maintain insurance or taxes may lead to foreclosure on a reverse mortgage.
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What Is a Single-Purpose Reverse Mortgage?
A single-purpose reverse mortgage is an agreement through which lenders make payments to borrowers in exchange for a portion of the borrower’s home equity. Borrowers can convert their home equity into cash, but they must use these payments for a specific purpose that’s approved by the mortgage lender.
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Understanding the Function of Single-Purpose Reverse Mortgages
A single-purpose reverse mortgage allows homeowners ages 62 and older to turn existing home equity into a steady income stream in retirement. As with any reverse mortgage, lenders make payments to borrowers as an advance on their home equity. In most cases, lenders expect repayment when the borrower moves out of the home or passes away, at which point the sale of the home would theoretically cover the loan repayment because the lender bases the loan’s payments on the borrower’s existing equity.
Single-purpose reverse mortgages limit the purposes for which borrowers can use the payments they receive. For example, lenders can insist that funds go toward the maintenance and upkeep of the home or cover typical costs that are in the lender’s interest, such as property taxes or homeowners’ insurance. Because of this, borrowers typically find them easier to obtain and at lower interest rates than other types of reverse mortgages.
On the other hand, borrowers may find it challenging to locate lenders who offer these types of loans. Because these purposes are intended to feed back into the home itself or its upkeep, it maintains the collateral for the lender, making these loans less costly than others that are general purpose. Most single-purpose reverse mortgages are issued by government agencies and nonprofit organizations.
Reverse mortgages typically make the most sense for elderly borrowers who have paid off their homes and need a consistent income stream. Homeowners retain the title to their home when they take out a reverse mortgage. Because payments represent an advance on equity, government agencies don’t consider them as income, which means they don’t increase the borrower’s tax burden nor usually affect eligibility for receipt of funds or services from Social Security or Medicare.
Other Types of Reverse Mortgages
In addition to single-purpose reverse mortgages, there are two other popular types of reverse mortgage products available.
Home Equity Conversion Mortgages (HECMs) Explained
The U.S. Department of Housing and Urban Development (HUD) insures the most common form of a reverse mortgage, home equity conversion mortgages (HECMs). Borrowers may use payments from these reverse mortgages for any purpose they wish. However, HUD maintains restrictions on the amount borrowers can receive via a home equity conversion mortgage. HUD requires borrowers to meet with a counselor employed by an independent housing counseling agency before applying for a home equity conversion mortgage.
Proprietary Reverse Mortgages Overview
For those with more expensive homes seeking to qualify for higher payments, some financial firms offer privately backed loans known as proprietary reverse mortgages. Borrowers looking for these reverse mortgages can avoid the fee involved with meeting a counselor by going directly to lenders, but the Federal Trade Commission (FTC) warns consumers who do so to shop carefully, compare different advice from different lenders, and be wary of high-pressure sales pitches and hidden fees.
What Are the Three Types of Reverse Mortgages?
The three most common types of reverse mortgages are 1) reverse mortgages insured by the Federal Housing Administration (FHA); 2) single-purpose reverse mortgages, which are usually offered by local governments and nonprofits; and 3) proprietary reverse mortgages, which are not FHA-insured and are offered by private lenders.
Can You Lose Your Home With a Reverse Mortgage?
Similar to a home equity loan, you’re borrowing against your home with a reverse mortgage. If you fail to pay your homeowners’ insurance and property taxes or keep up with maintaining the property, the mortgage lender could foreclose on the home.
What Are the Upfront Costs of Reverse Mortgages?
Closing costs for a reverse mortgage can include fees for the appraisal, title search, inspection, property taxes, and credit check. Origination fees are capped at $6,000, while annual mortgage insurance can cost 0.50% of the loan balance.
The Bottom Line
Single-purpose reverse mortgages have lower fees and better rates than the more common HECMs and proprietary reverse mortgages. They’re given for a specific purpose, such as repairing a roof or paying property taxes, and they’re generally issued only by nonprofit organizations or local government entities. If you can find one and get approved for one, they’re a great option for getting the necessary funds to stay in your home in retirement.