With today’s retirees living longer than expected, many of them are turning to other sources of income in their golden years. A buzzword among many seniors is “reverse mortgage,” though critics say they’re often too good to be true. So what is a reverse mortgage, and what does it really do?

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A reverse mortgage allows homeowners over the age of 62 to earn a monthly or lump sum payment on their home's equity. A lender typically pays a homeowner according to a formula derived from the homeowner’s age, the current interest rate and the appraised value of their home, according to the United States Department of Housing and Urban Development, or HUD.

Homeowners can get more money the older they are and the more valuable their home. Reverse mortgages differ from traditional mortgages because no repayment is required until the homeowner passes away, or ceases to use the home as their primary residence, according to HUD.

“For a lot of elderly, retired people, cash flow is limited as they move to a fixed income,” said Robert Walters, chief economist and divisional vice president of the Capital Markets Group for Quicken Loans Inc.

“A lot of Americans find their principle source of income is their home, yet they don’t want to leave it, because it’s where they raised their children. This puts them in an unhealthy dilemma, because they can either stay but not live well, or leave and get equity. This is where the reverse mortgage comes in, allowing them to stay and get equity,” Walters said, who added that the reverse mortgage program in the US. had changed significantly over the last number of years.

“Now it’s entirely an FHA [Federal Housing Administration] program, and the amount lenders can charge is highly regulated,” he said. “Anyone thinking of getting a reverse mortgage will get a lot of counseling from various nonprofits, which are designated by the FHA and HUD.”

Once a homeowner takes a reverse mortgage, they can choose different ways to receive their funds, either via “tenure,” receiving monthly payments, or via a “line of credit,” which is essentially a lump sum payment the borrower can pull from at any time. Fortunately, the lender cannot take away a home if the borrower outlives the loan. As long as the borrower remains in the home and continues to pay taxes and insurance, they will never owe more than what the home is worth, according to Walters.

At Action Mortgage in Rhode Island, Vice President Nathan Russo said a reverse mortgage typically takes three weeks to close. “The nice thing about reverse mortgages is that they don’t vary by state, they are nationally regulated by the federal government according to your age and equity, and the rest of it is just paperwork.

Russo said the older a retiree is, the higher percentage loan they can get. “The closer you are to 100, the higher equity you can get--the logic being, unfortunately, the closer you are to death, the shorter amount of time the loan will be withstanding,” Russo said

Income from a reverse mortgage is not taxable, and can be used for any purpose, Russo said. Most people turn to a reverse mortgage because they can’t afford to make payments on things like utilities and medical bills, or because they want to fix up their home, buy a new car, or travel. After the borrower passes, the estate typically has six to 12 months to repay the debt.

“The only negative in getting [a reverse mortgage] would be if you were an heir and wanted to keep your family home. So your kids might have less to get, but, hey, I mean, whose house is it?” Russo said.

Another potential problem with reverse mortgages is that the borrower or their estate must repay the loan with interest if they ever move out. This could put some retirees in trouble if they ever needed to move to a nursing home or  an assisted living facility. However, if there is any equity left on the home when the owner passes or moves out, it will revert to the owner or the owner’s estate, according to HUD.

Sean Marsh, CEO of One Reverse Mortgage, said that reverse mortgages are becoming more popular with the baby boomer generation due to a psychographic demographic shift.

“We are looking at two different trends, said Marsh. "By 2035, there will be 60 million people who are 65-years-and-older. Right now, 2% of people who are eligible for reverse mortgages actually have them, and last year that number was at 1%. In the next 10 years, you will see [the number of reverse mortgages] increase 10 fold.” In 2006, 76,000 people closed reverse mortgages, according to Marsh.

The other trend Marsh noted was the psychographic shift in the over 60 population. “The baby boomers live more for today. Unlike the current depression-era retirees, they know their greatest achievement isn’t dying with a mattress full of money. Socially, things have changed. People are living longer than they anticipated and they are going to enjoy themselves.”

Dolores Gorrie, 65, owns her two bedroom condo in San Diego, Calif., and took out a reverse mortgage on her property two years ago. She chose to take the $70,000 she received as a lump sum payment, available to her as a line of credit.

“The main reason I got [the reverse mortgage] was because of my age, I had been working three jobs for 17 years, and I am still working, but now I am down to one job. Now I can work, but not work so hard. I have a little freedom to do the things I couldn’t afford, like take a little vacation every once in a while,” Gorrie said.

Gorrie said she is not concerned about her future ability to pay for a nursing home or assisted living facility, as she hopes to stay in her home indefinitely. “I love my home, and this is the last home that I will hopefully ever be in,” she said.

“Some people might be a little nervous about reverse mortgages because they think they might be cheating their kids out of their inheritance, but I have two kids, and I feel that they need to work hard for what they have, too, and that’s not because I’m selfish, but I’m not going to deprive myself of a little 2 or 3 day trip somewhere because I want to leave my children my house,” Gorrie said. “They are hard working kids, and hopefully they will never change. I talk to a lot of people who say, “I want to leave my kids everything,” but what about your kids working for what they have? Use your money towards your own enjoyment of life.”

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