Reverse Mortgages: Pros and Cons

While it's tempting to tap into your home's equity by way of a reverse mortgage, consumer advocates advise caution as there are several downsides to the process.

As homeowners get older and retire, they may have troubles with their cash flow. At the same time, chances are good that they’re sitting on a pile of equity in their home. While it’s tempting to tap into this treasure trove by way of a reverse mortgage, consumer advocates advise caution. While there are many advantages to taking out a reverse mortgage, there are several downsides as well.

The most obvious advantage is the money. A reverse mortgage can provide homeowners who are at least 62 years of age with a lump-sum payment, a monthly check, or a line of credit, whichever works best, and these payments are generally not taxable. If the borrower chooses a monthly payment, the money keeps coming for as long as the owner lives in the home. If the payments exceed the value of the house, the lender has to eat the loss. And because credit scores and income usually don’t enter into the eligibility equation, reverse mortgages are fairly easy to qualify for.

A major drawback is closing costs, which can be as much as $10,000 to $15,000, far higher than the cost of a conventional mortgage. Also, borrowers who choose to get a monthly check may outlive the value of their home, leaving no equity for their heirs. And homeowners must have enough cash flow to pay other expenses, like property taxes and insurance, or risk losing their home.

Federal regulators have also warned consumers about dodgy lending practices in the reverse mortgage industry, particularly cross-selling - urging homeowners to invest the cash from a reverse mortgage in a high-cost annuity or other investment. Consumer advocates advise taking a hard look at other alternatives; for a checklist, visit the AARP reverse-mortgage Web page.