Can a Reverse Mortgage Be Foreclosed On?

Reverse mortgages are often hyped as a great way for senior citizens to easily get extra spending money. While reverse mortgages offer a few advantages, they also have significant downsides. For starters, a reverse mortgage can be foreclosed in a number of different circumstances. Also, they tend to be expensive.

Before you take out a reverse mortgage, learn how they work, as well as the advantages and notable disadvantages associated with these kinds of loans.

What Are the Different Types of Reverse Mortgages?

The most common type of reverse mortgage is a Home Equity Conversion Mortgage (HECM), which the Federal Housing Administration (FHA) insures. (The FHA is a part of the U.S. Department of Housing and Urban Development (HUD)).

Reverse mortgage salespeople sometimes use the fact that the loan is federally insured as part of their sales pitch as though this insurance somehow benefits the borrower. It doesn't. The insurance program helps the lender. The insurance kicks in if the borrower defaults on the loan the home isn't worth enough to pay back the lender in full through a foreclosure sale or other form of property liquidation. In those cases, the FHA will compensate the lender for the loss.

Still, the federal government regulates HECMs and provides some protections to borrowers, like requiring them to attend a counseling session before getting this kind of loan.

Other Types of Reverse Mortgages

Some lenders offer "proprietary" reverse mortgages. Proprietary mortgages aren't FHA-insured.

One kind of proprietary reverse mortgage is called a "jumbo reverse mortgage" because only people with very high-value homes can get them. Other proprietary reverse mortgages have a lower minimum age requirement than HECMs, such as age 55. (You have to be 62 to get a HECM.) But, again, the federal government doesn't back these mortgages. So, proprietary reverse mortgages carry all of the risks of a HECM with none of the government's regulation or oversight.

Another kind of reverse mortgage is a single-purpose reverse mortgage, which restricts the homeowner's withdrawals to paying for specific costs, usually property taxes and home repairs. Some state and local government agencies, as well as non-profit organizations, offer these loans. If you qualify, these programs are a much better option than getting another type of reverse mortgage.

How Does a Reverse Mortgage Work?

With a typical mortgage, the borrower gets a lump sum from the lender, and then makes monthly payments, which go towards repaying the loan, plus interest. With a HECM, the borrower uses the equity in a home as the basis for receiving cash payments.

The borrower typically receives monthly payments from the lender or gets a line of credit upon which the borrower makes draws, which become the loan. The loan gets bigger each time the lender sends a payment, or the borrower makes a draw, until the maximum loan amount is reached. The borrower can also choose to get a lump sum, subject to limitations. Federal law limits the amount the borrower can get in the first year of the loan to the greater of 60% of the approved loan amount or the sum of the mandatory obligations—like existing mortgages and other liens on the property—plus 10% of the principal limit.

The homeowner doesn't have to repay the loan unless and until specified events happen, as explained below. Mortgage lenders and brokers often portray reverse mortgages as though there's little to no risk of losing the property to foreclosure.

Sounds like a deal that's too good to pass up, right? Not so fast. People who've taken out a reverse mortgage can lose their homes to foreclosure, sometimes for relatively minor violations of the mortgage contract. The lender usually gets its money back, and more—why else would they make these loans?

When You Might Face a Foreclosure

Reverse mortgages offer some advantages. If you have a lot of equity in your home but not much cash, a reverse mortgage might be a good way to get money. Also, HECMs are nonrecourse, which means the lender can't come after you or your estate for a deficiency judgment after a foreclosure.

But reverse mortgages have significant disadvantages and become due and payable—and subject to foreclosure—when:

• The borrower permanently moves out. (Even though the borrower might still own the property, once the borrower's principal place of residence changes, the lender may call the loan. If the borrower moves out of the home and, for example, lets someone else live there, or rents it out, the lender can require repayment immediately.)
• The borrower temporarily moves out because of a physical or mental illness, like to a nursing home, and is away for over 12 consecutive months.
• The borrower sells the home or transfers title (ownership) of the property.
• The borrower dies, and the property is not the principal residence of at least one surviving borrower. (A nonborrowing spouse might be able to stay in the property even after the borrower has died if specific criteria are met. Talk to a lawyer or HUD-approved housing counselor for more information.)
• The borrower doesn't meet contractual requirements of the mortgage, like staying current on property taxes, having homeowners' insurance on the property, and maintaining the home in a reasonable condition. If the borrower doesn't pay taxes and insurance on the property, the lender may advance the funds to the lender for those bills initially. If the borrower doesn't repay the advanced amounts, the lender may call the loan due. (The lender may require a set-aside account if there's a chance the homeowner won't be able to keep up with the tax and insurance bills.)

Seniors have often found themselves facing a foreclosure after the lender calls the loan due because of mortgage violations like failing to give the lender proof of occupancy, failing to pay insurance premiums, or letting the home fall into disrepair.

Generally, if the lender calls the loan due, the borrower—or heirs if the borrower has died—must pay off the debt (or pay 95% of the current appraised value to the lender, whichever is less), deed the property to the lender, or sell the property (for the lesser of the loan balance or 95% of the appraised value). (FHA insurance covers the remaining balance).

Otherwise, the lender will foreclose.

Other Risks of Reverse Mortgages

Not only could the lender call the loan due in any of the above-described situations, a few of the other downsides to reverse mortgages include:

• A reverse mortgage might affect your eligibility for Medicaid.
• The fees on reverse mortgages tend to be high, generally higher than a regular mortgage. The lender might charge significant upfront fees (such as origination fees, mortgage insurance premiums, and closing costs), as well as ongoing servicing fees during the term of the mortgage.
• The more money you get from a reverse mortgage, the more of your home's equity that you use up. As a result, you won't be able to access it later on (by selling the property) to cover costs for things like long-term health care costs or to finance a move. Also, you'll have less of an asset to leave to your heirs. You can still leave the home to your heirs, but they'll have to repay the loan to keep the home.

Consider Other Alternatives to a Reverse Mortgage

Because you get money now and don't have to pay it back until much later (theoretically), a reverse mortgage might initially sound very appealing. But, because of the drawbacks associated with these loans, it's a good idea to consider other options if you're facing financial difficulties.

You could, for instance:

• sell the property and move to more affordable accommodations
• apply for federal, state, or local programs that provide grant money or other financial help to senior citizens (like to pay for utilities or repairs), or
• apply for property tax credits or abatements (reductions).

Getting Help

If, after considering all the downsides to reverse mortgages you're still thinking about getting one, consider talking to a trusted financial planner, elder-law attorney, or estate planning attorney in addition to a meeting with a HUD-approved counselor (which is a required step when you get a HECM). For more general information about reverse mortgages, go to the AARP website.

Also, beware of common reverse mortgage scams.

If you need help avoiding a foreclosure, consider talking to a foreclosure attorney.