Should You Consider a Reverse Mortgage?

As financial devices, reverse mortgages (RMs) are like 3-D printers. They can do some interesting and useful things, but they are complex and can be expensive.

Reverse mortgages were originally designed for those who came up a little short when they reached retirement age. Today, however, they are being used for purposes other than just retirement income.

Should you consider a reverse mortgage? Read on to learn about what they are, how you can use them, what they cost, and their drawbacks.

What They Are
Unlike traditional mortgages, which require a monthly payment to pay off principal and interest, RMs tap the equity in your primary residence to provide you a monthly payment or lump sum. You can take out an RM on a home you've been living in for a long while, or one you're buying. It's a loan that uses your home as collateral. You defer paying off the loan until you move out, sell, or die.

As products that didn't exist before 1990, RMs are relative newcomers to the home-finance world. Their volume has grown from less than 200 loans some 25 years ago to more than 51,000 last year. The biggest year was 2009, when more than 114,000 RMs were originated, according to the U.S. Department of Housing and Urban Development (HUD), which insures the loans through its Federal Housing Administration. Although the current market for RMs is relatively small--only about 3% of those who qualify have them--they are expected to grow in popularity as baby boomers age.

The first RMs, also known as Home Equity Conversion Mortgages, were variable-rate products that adjusted monthly. HUD capped their volume until 1998, when the government allowed 150,000 RMs to be issued annually. Their popularity boomed immediately before and after the housing boom (2006-11), as more homeowners tapped their equity for a variety of purposes.

The housing bust, which resulted from the popping of a credit bubble in 2007, forced some RM holders into difficult financial situations, which were compounded by job losses and a recession. Some 10% of reverse-mortgage holders faced defaults when they were unable to pay property tax or insurance bills.

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