How Does a Reverse Mortgage Work?

If you’re a homeowner aged 62 or older who’s interested in tapping into your home equity, but not sure how the reverse mortgage program works, here’s what you need to know.

Your age, current interest rates, and the lesser of your home’s appraised value, the sale price, or the maximum lending limit are used to determine the size of your reverse mortgage loan. A lender will consider these factors to calculate how much home equity you can access, and this money is then loaned to you for as long as you remain in your home and maintain it as your primary residence.

Your Payment Options

The majority of borrowers who take out a reverse mortgage own their home outright, or have a significant amount of equity in their primary residence. If there is a balance, the reverse mortgage loan proceeds must be used to pay off the loan at the time of closing. Any remaining funds from the loan can be received in the following ways:

  • Lump sum: all of the funds in one payment
  • Term: a monthly amount of money to be paid for a set time period
  • Tenure: a monthly payment for the life of the loan
  • Line of Credit: unscheduled payments/installments of however much you need when you need it, until the credit line is exhausted
  • Some combination of these options

Types of Interest Rates

You can choose either a fixed rate interest for your loan, or one with an adjustable rate.

If you choose a fixed rate, lenders require that borrowers take any reverse mortgage proceeds in a lump sum. Adjustable rates, on the other hand, offer more flexibility in how you can receive your funds.

Lines of credit, for example, are only available with an adjustable rate loan. If you choose this option, the unused balance of your available funds actually increases over time through a “credit line growth rate,” which is the current interest rate plus half a percent, according to the Department of Housing and Urban Development.

Like any mortgage product, you will be charged an interest rate on your reverse mortgage. Since you’re not required to make monthly mortgage payments, any interest accrued is added onto your reverse mortgage loan balance. As a homeowner, though, you are still responsible for keeping up with the property taxes and homeowners insurance associated with your property.

Options For Repayment of the Loan

When you die or move out of your home, the reverse mortgage must be repaid. This is usually accomplished through selling the house, although in some cases your heirs may choose to pay off the loan to keep the home in the family.

FHA-insured reverse mortgages are non-recourse loans, so even if your loan ends up exceeding your home’s value due to factors such as falling home prices and accrued interest, you or your heirs will never be required to pay more than what the home is worth when the loan is repaid.

If you’re interested in learning more about how a reverse mortgage works and how one could work for you, try our reverse mortgage calculator in the upper left hand corner for a free eligibility analysis.