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How to Buy a Retirement Home With a Reverse Mortgage

Many older people know about using a reverse mortgage to tap their home equity and use the money to stay in a longtime home. But it's also possible to use a reverse mortgage to buy a home. This can be helpful to people who want to relocate and can't afford mortgage payments in retirement or are unable to qualify for a conventional mortgage. It may also be a useful financial tool for delaying Social Security or conserving cash.

"Very few people actually use the reverse to buy a home, but it's a great tool," says Sylvia Gutierrez, a mortgage professional in Miami and the author of "Mortgage Matters: Demystifying the Loan Approval Maze." "They're not tied to that monthly payment. Many people will benefit from that."

With a reverse mortgage, the bank actually pays you, up to a predetermined percentage of your home value. That money can come in a lump sum, monthly payments or a line of credit. To qualify for a reverse mortgage, you must be 62 or older, and the home you're buying must be your principal residence.

"The advantage to a reverse mortgage is you don't have to make payments," says Casey Fleming, author of "The Loan Guide: How to Get the Best Possible Mortgage" and a mortgage professional in the San Francisco Bay Area. "A lot of people have enough money to pay cash for a new home, but they want to retain some cash."

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In fact, you can't buy a home with a reverse mortgage unless you have enough money to make a substantial down payment, usually about 50 percent of the purchase price. If you get a Home Equity Conversion Mortgage, which is backed by the Federal Housing Administration, the maximum home value you can borrow against is $625,000. (You may be able to find a portfolio lender to lend on higher valued homes, but they are few and far between.)

As an example, if you are 62 and want to buy a house valued at $600,000, you would need to put up at least $265,000 as a down payment. The exact numbers depend upon your age, the interest rate and how you are taking the proceeds. The transaction proceeds much as a regular mortgage would, except that the borrower doesn't have to qualify financially for the loan.

"The higher the interest rate, the less you can borrow," Fleming says. "The older you are, the more you can borrow."

Jamie Hopkins, associate professor of taxation at the American College in Bryn Mawr, Pennsylvania, and the associate director of the New York Life Center for Retirement Income, says the line of credit is a better option than a lump sum for most people using a reverse mortgage. Too many people make bad decisions when they get all the money at once and then have no reserves to draw on later, he says.

When you die or leave the home, the mortgage becomes due. Your heirs get any equity that hasn't been eaten up by interest and fees, though if you live a long time, there won't be any value left, and the home will go to the lender.

While buying a home with a reverse mortgage isn't for everyone, it can be a good move for some. The key is to evaluate the decision as part of a total financial plan.

For example, income from a reverse mortgage may allow someone to delay drawing Social Security. "That makes a lot of sense," Hopkins says. "I can borrow at 4 percent and get 8 percent guaranteed return," he says, referring to the increase in Social Security payments each year you delay collecting, up to age 70.

While reverse mortgages have been marketed to low-income people, who have no savings except the equity in their homes, they may be a better fit for people who have some assets and are just going into retirement.

"Housing wealth might be the one area where bad decisions might hurt us the most," Hopkins says. "Use home equity and reverse mortgages early in retirement, not at the end. Use these strategically upfront. Make sure they're part of an overall plan."

Historically, there have been a lot of "bad apples" in the reverse mortgage industry, partly because the loan officers who sell them can make more on each transaction than they can on a conventional mortgage. While new regulations have cut down on some abuses, it's still important to shop around. The U.S. Department of Housing and Urban Development also requires borrowers to receive counseling from a HUD-approved agency and undergo a financial review before they receive a reverse mortgage.

The downside of reverse mortgages, beyond the loss of equity, is the high fees. Lenders are allowed to charge as much as $6,000 in origination fees, though that number is negotiable, plus you'll play all the fees due for a traditional mortgage, including appraisal fees and title insurance. There is a mortgage insurance premium upfront and also every year, as well as fees to servicers. All those fees are added to the mortgage balance.

It's important to shop around to get the best deal because some of the fees are negotiable, as is the interest rate. "You should get two or three estimates and compare," Gutierrez says. "A lot of times people speak to only one person."

"The costs are higher upfront on a reverse mortgage, but if you save yourself $1,500 a month, I think it's worth it in the long run," she adds.

Here are eight questions to ask if you're considering buying a retirement home with a reverse mortgage:

Do you have enough cash? While you can finance a home purchase with a reverse mortgage, you need to be able to put a substantial amount down.

It is worth the cost? Upfront fees can be $12,000 or more, and there are also annual fees, including mortgage insurance. For less expensive homes, a reverse mortgage may not be worth the costs. "It's a very expensive way to borrow," Fleming says. "The upfront costs can be really quite high."

Can you afford upkeep? Holders of reverse mortgages are required to pay for property taxes, insurance, homeowners association fees and repairs. If you don't pay those costs, the lender can foreclose, and you could lose your home.

How does the reverse mortgage fit into your estate plan? If you live a long time, you may eat up all the equity in your home, leaving nothing to your heirs.

How long do you plan to stay in the home? Because the initial costs of a reverse mortgage are high, it usually isn't a good a short-term solution. The break-even point is not the same for everyone but, in general, if you're not going to be in the house at least five years, buying with a reverse mortgage is too costly. "If you're only doing this for two or three years, it doesn't make sense," Hopkins says.

Would a conventional line of credit suit you better? If you're concerned about having enough cash for emergencies, you should consider whether paying cash for the house and then taking out a traditional home equity line of credit would be a smarter financial move. That's a significantly cheaper solution, but you have to be able to qualify for the HELOC and make payments on anything you borrow. "Eventually the equity line runs out, and the reverse mortgage doesn't," Fleming says.

Can you pay for end-of-life care without your home equity? Many people who go into assisted living or nursing home care at the end of their lives pay for that care with the proceeds from selling their home. If you spend that equity beforehand, you need to have other funds to draw on if you need help in your later years.

How will you take your payments? You can opt for a lump sum, a line of credit or monthly payments, and some lenders offer a combination of options. The lump sum is at a fixed interest rate, about one percentage point higher than a traditional mortgage, Fleming says, and there is a limit on how much you can take the first year, though you can take the rest the second year. The payments and line of credit options are an adjustable rate, tied to the Libor. The amount available in the line of credit rises every year, though if you take out more than that, it could dry up. You can choose a specified term of fixed payments or fixed payments that continue until you die or leave the house.



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