As a short term financing tool, reverse mortgages are an expensive proposition. However when used long-term, those expenses are spread throughout the life of the loan, making a reverse mortgage a viable solution to supplement retirement income, pay off a mortgage and have extra cash available to enjoy life to the fullest without the worry of mortgage payments. So, what costs are involved and why do the fees seem so high?
When looking at a reverse mortgage estimate, one will find that fees are broken down into three categories; loan origination fee, HUD Mortgage Insurance Premium (MIP), and other costs. Fees are based on the home value or lending limit, whichever is less. Currently, due to the passing of the American Recovery Act of 2009, the national reverse mortgage lending limit is $625,500. These fees are further broken down on the Good Faith Estimate (GFE).
To begin, the loan origination fee is the fee that is paid to whomever originates your reverse mortgage for you. That person should be a reverse mortgage specialist and will help guide you through the entire reverse mortgage process. The origination fee is heavily regulated by HUD/FHA. The guidelines for the origination fee are that originators can charge 2 percent of the first $200,000 of appraised value or lending limit (whichever is less), and 1 percent of any portion thereafter, with a maximum of $6,000 and a floor of $2,500. For example, a home valued at $300,000, would have a maximum origination fee of $5,000.
The next fee to explore is the upfront HUD Mortgage Insurance Premium (MIP), which is paid to HUD/FHA. This fee, although high, is the main reason in which the Home Equity Conversion Mortgage (HECM) Program is able to exist. The amount of the fee is 2 percent of the lesser of the home value or lending limit. For example a $300,000 home would have an upfront MIP of $6,000. This fee works in a couple ways. First, it’s like an insurance policy for the lender. Reverse Mortgages are considered “non-recourse” loans, which means the homeowner can never owe more than the value of their home. Since the loan balances are growing rather than shrinking like traditional mortgages, it is possible that the amount owed could be greater than the home’s value. If that were the case and a maturity event occurred, the lender would recover their loss with the pool of money created by the upfront MIP. Secondly, the MIP helps protect the borrower as well. Let’s say for some reason, the borrowers reverse mortgage lender went out of business. HUD would step up and make sure that all funds available to the borrower, whether it be a line of credit or monthly payment, would still be available to that borrower. It’s a necessary evil that helps stimulate the appetite of investors looking to invest in reverse mortgages.
The last set of fees seen on the reverse mortgage estimates page is other fees. This refers to typical loan costs, such as title, escrow, appraisal, notary, etc. These fees are paid to the third parties involved who help with certain parts of the transaction. Lenders require title and escrow to make a smooth transaction and to make sure that all previous liens, if any, are satisfied prior to establishing a new reverse mortgage on the property. In addition, the lender wants to verify the home value, which is why an appraiser will visit the property and provide the lender with his/her best estimate of value based on the condition of the property as well as comparable properties in the area.
In addition to actual hard, upfront fees incurred on the loan, other costs include the interest rate that is paid, the ongoing 0.5% HUD MIP fee and monthly service fees. These items will be explored in our next article: Relevancy of Rates on Reverse Mortgage Costs.
In conclusion, reverse mortgages are designed for senior homeowners who want to stay in their home long-term. Although certain situations may dictate the reverse mortgage as a viable short-term solution, however it’s best to consider a reverse mortgage as a long-term loan. When looking into a reverse mortgage, make sure the reverse mortgage professional that you’re working with fully explains all fees involved. It is of paramount importance to not only understand how the reverse mortgage works, but also all fees involved.