What Happens When a Reverse Mortgage Runs Out?

The chilling question hanging over many homeowners with reverse mortgages: What happens when the money stops flowing? In short, when a reverse mortgage “runs out,” meaning the borrower has reached their credit limit, stopped meeting loan obligations, or passed away, the loan becomes due and payable. The homeowner (or their estate) will need to repay the outstanding loan balance, including accrued interest and fees, to prevent foreclosure. This repayment can be achieved through refinancing, selling the home, or using other assets.

Understanding the Fundamentals of a Reverse Mortgage

Before diving into the specifics of a reverse mortgage running out, let’s recap the basics. A reverse mortgage, specifically a Home Equity Conversion Mortgage (HECM) insured by the Federal Housing Administration (FHA), is a loan available to homeowners aged 62 and older that allows them to borrow against the equity in their home without having to make monthly mortgage payments. Instead of paying the lender, the lender pays the borrower. The loan, plus accrued interest and fees, becomes due when the borrower no longer occupies the home as their primary residence, fails to pay property taxes or homeowners insurance, or passes away.

How Reverse Mortgages Work

The amount a borrower can access is based on several factors, including their age, the appraised value of the home, current interest rates, and the FHA’s lending limits. Funds can be received as a lump sum, monthly payments, a line of credit, or a combination of these options. Crucially, the borrower retains ownership of the home, unlike a traditional sale-leaseback arrangement.

Why Reverse Mortgages “Run Out”

Several scenarios can lead to a reverse mortgage reaching its limit or triggering the due and payable clause:

• Reaching the Credit Limit: The borrower has taken out the maximum amount available based on their initial loan agreement and subsequent interest accrual.
• Failure to Meet Loan Obligations: This is often the most common trigger. The borrower fails to pay property taxes, homeowners insurance, or maintain the home in good repair.
• Moving Out or Death: The borrower no longer lives in the home as their primary residence (e.g., moves to a nursing home or assisted living facility for an extended period) or passes away.
• Sale of the Home: If the homeowner decides to sell the property, the outstanding loan balance must be repaid at closing.

What Happens When the Funds Stop?

When a reverse mortgage reaches its limit, the borrower no longer receives payments. However, the loan is still active, and interest continues to accrue on the outstanding balance. Here’s a breakdown of the potential outcomes:

Continued Occupancy and Loan Repayment

If the borrower wishes to remain in the home after the funds have been exhausted and they are still meeting their loan obligations (paying taxes and insurance, maintaining the property), they can usually continue living there. However, they must eventually address the outstanding loan balance.

Selling the Home

The homeowner can sell the home to repay the loan balance. If the sale proceeds exceed the outstanding balance, the homeowner (or their estate) keeps the difference. If the sale proceeds are less than the outstanding balance, the FHA insurance typically covers the deficiency, preventing the heirs from being personally liable for the remaining debt, but only up to the appraised value at the time the loan originated.

Refinancing the Reverse Mortgage

In some cases, it may be possible to refinance the reverse mortgage. However, this usually requires the homeowner to meet the current lending requirements, which may be challenging if their financial situation has deteriorated.

Foreclosure

If the loan becomes due and payable due to the borrower moving out, failing to pay property taxes/insurance, or passing away, and the heirs or estate cannot repay the loan balance, the lender may initiate foreclosure proceedings. It’s crucial to communicate with the lender and explore all available options before foreclosure becomes the only recourse.

Deed-in-Lieu of Foreclosure

In some circumstances, the heirs or estate may opt to voluntarily transfer the property title to the lender to avoid the foreclosure process. This can be a less stressful and more efficient way to resolve the debt.

Planning for the Future

The best way to mitigate the potential challenges of a reverse mortgage running out is to plan ahead. This includes:

• Understanding the Loan Terms: Carefully review the loan documents and ensure a thorough understanding of the loan’s terms, conditions, and limitations.
• Budgeting Wisely: Use the reverse mortgage funds judiciously and avoid drawing down more than necessary.
• Maintaining the Property: Keep the home in good repair to avoid potential issues with the lender.
• Staying Current on Taxes and Insurance: Prioritize the payment of property taxes and homeowners insurance to avoid default.
• Communicating with Heirs: Discuss the reverse mortgage with family members and ensure they understand the process and their options when the loan becomes due.
• Seeking Professional Advice: Consult with a financial advisor or housing counselor to develop a comprehensive financial plan that addresses the potential implications of a reverse mortgage.

Frequently Asked Questions (FAQs)

1. What happens if the home is worth less than the outstanding loan balance when it’s time to repay?

With a HECM reverse mortgage, the borrower (or their estate) is generally not responsible for paying more than the home’s fair market value at the time of sale. The FHA insurance covers the difference, protecting borrowers from owing more than the home is worth. This is known as a non-recourse loan.

2. Can my heirs inherit the home if I have a reverse mortgage?

Yes, your heirs can inherit the home. However, they will need to either pay off the outstanding loan balance (which they can do by selling the home, refinancing, or using other assets) or deed the property back to the lender.

3. Will my heirs have to sell the home immediately after my death?

No, your heirs are typically given a reasonable timeframe to make arrangements to either repay the loan or sell the home. The lender will usually provide a notice of default, giving them time to take action.

4. What if I need more money than my reverse mortgage provides?

If you anticipate needing more funds than your reverse mortgage can provide, explore other options, such as supplemental income sources, savings, or long-term care insurance. It’s crucial to have a comprehensive financial plan in place.

5. Can the lender foreclose on my home if I live there but the reverse mortgage is exhausted?

As long as you continue to meet your loan obligations (paying taxes and insurance, maintaining the property) and live in the home as your primary residence, the lender generally cannot foreclose simply because the loan funds are exhausted.

6. What if I can no longer afford to pay property taxes or homeowners insurance?

This is a critical issue. If you cannot afford these expenses, the lender may pay them on your behalf, but the cost will be added to your loan balance, increasing the amount you owe. Failure to pay these expenses is a common reason for foreclosure. Explore options such as applying for property tax assistance programs or adjusting your budget.

7. Can I rent out my home while I have a reverse mortgage?

Generally, you cannot rent out your home while you have a reverse mortgage and continue to live there. The property must be your primary residence. Renting it out could trigger the due and payable clause.

8. What are the fees associated with a reverse mortgage?

Reverse mortgages come with various fees, including origination fees, mortgage insurance premiums (both upfront and ongoing), servicing fees, and other closing costs. It’s essential to understand all the fees involved before taking out a reverse mortgage.

9. How does a reverse mortgage affect my eligibility for Medicaid?

Reverse mortgage proceeds are generally not considered income for Medicaid eligibility purposes. However, if the funds are retained and not spent, they may be considered assets, which could affect eligibility depending on state-specific rules. Consult with an elder law attorney or Medicaid expert for personalized guidance.

10. Is a reverse mortgage right for everyone?

No, a reverse mortgage is not a suitable solution for everyone. It’s crucial to carefully consider your individual circumstances, financial needs, and long-term goals before taking out a reverse mortgage. It’s best suited for homeowners who plan to remain in their home for an extended period and need access to additional funds to supplement their income.

11. Where can I get more information about reverse mortgages?

You can find more information about reverse mortgages from the FHA, the Consumer Financial Protection Bureau (CFPB), and HUD-approved housing counseling agencies. These resources can provide unbiased information and guidance to help you make an informed decision.

12. Can a reverse mortgage be part of an estate plan?

Yes, a reverse mortgage can be incorporated into an estate plan. It’s crucial to discuss the reverse mortgage with your estate planning attorney to ensure that it aligns with your overall estate planning goals and addresses potential implications for your heirs. This allows you to establish clear instructions for managing the reverse mortgage and the property it is secured against after you are no longer present.