You’ve Inherited a House with a Reverse Mortgage—Now What?
Reverse mortgages are growing in popularity, but one issue confronting the children of elderly parents who have taken them out is what to do with the home (and the mortgage) once their parents pass away.
What is a reverse mortgage?
Available to homeowners 62 years of age and older, reverse mortgages have become a popular way for the elderly, often short on available cash and long on home equity, to turn that equity into cash. Homeowners who take out reverse mortgages on their principal residences receive either a one-time lump sum advance, monthly payments, or a line of credit. The total amount available to them depends on the location and value of the property, prevailing interest rates, and the age(s) of the individual(s) listed on the deed and loan. Generally, the entire mortgage (principal, accrued interest, and fees) isn’t repaid until the last mortgagee has died or vacated the property (e.g., moved into a nursing home) for more than 12 consecutive months. So, if you’re inheriting property with a reverse mortgage, what now?
You can pay the mortgage, or you can pay the mortgage
You’ll only inherit the home itself if the reverse mortgage balance can be paid off without selling the property. Otherwise, what you’ll actually inherit is the remaining equity (if any) in the home once it is sold to repay the lender.
Generally, there are three repayment doors open to you:
Pay off the mortgage balance in full with estate or other funds
Pay off the balance of the reverse mortgage in full by obtaining a “forward” mortgage on the property
Pay off the reverse mortgage with the proceeds from selling the property
The option you pick depends largely on whether or not you want to retain possession of the property. If you do, you’ll have to go through door number 1 or 2. If not, door number 3 may be the most practical solution (and, particularly in an “upside down” loan-to-value situation, the least expensive one).
From reverse to forward
If you want to keep the property and don’t have (or want to use) funds from the estate or your own funds to repay the reverse mortgage, you may be able to obtain a “forward” (regular) mortgage on the property and use the proceeds to repay the reverse mortgage. Obtaining a forward mortgage will depend on many factors, including the current value of the property and the total reverse mortgage balance due.
In most cases, the property value should be great enough, and the reverse mortgage balance small enough, to satisfy the loan-to-value ratio required for the new forward mortgage. Why? Because the reverse mortgage lender, knowing the loan is usually repaid from the eventual sale of the property, generally leaves itself an anticipated equity “cushion” to protect itself against a loss.
In determining the loan principal amount to offer the applicants, the reverse mortgage lender factors in (among other things) the average life expectancy of the borrowers, the prevailing interest rate, and the expected appreciation in the home’s value. The amount then offered will generally be low enough to assure there’ll still be sufficient equity in the property at the time of its sale to cover repayment of the entire accumulated debt. For example, under the federally insured Home Equity Conversion Mortgage (HECM) plan, an individual 66 years old with a home valued at $400,000 would only receive a single lump sum advance of approximately $152,000 to $184,000, depending on the home’s location. (Source: AARP reverse mortgage calculator)
The upside down cake
But sometimes the property may now be valued at less than the mortgage balance due (the loan-to-value ratio has turned “upside down”). This could happen if the property has physically deteriorated or been damaged, home values in the area have declined, and/or your parents outlived the life expectancy table the lender used to determine the original loan amount.
If that’s the case, selling the property to repay the reverse mortgage (even if you really don’t want to) may make the most sense. Why? Because the reverse mortgage repayment amount can’t exceed the proceeds from a sale of the property. If there’s a mortgage balance remaining after the sale, the estate of the homeowners isn’t held responsible for that amount.
So, you may not have a house to inherit, but you won’t have a debt to repay, either.