You may have heard about reverse mortgages being used by homeowners that own their home free and clear to pull money out for monthly living expenses. Reverse mortgages can also be used to buy a home with a great deal of flexibility.
First let’s cover what a reverse mortgage is and is not. A reverse mortgage is just a loan. The reverse mortgage loan works backwards, so in a normal loan you are paying down your mortgage including the principal amount, any mortgage insurance, and interest. In a reverse mortgage, the loan amount grows as the mortgage insurance and interest are added to the principal each month. When you sell the home (before or after your death) the loan is then paid off. You have no mortgage or interest payments during the time you own the home.
The bank does not own your home, the mortgage is still just a simple loan, so the only way you can lose your home is to default on the loan, in this case that would mean not paying your property taxes, home owners insurance, HOA fees and maintenance costs, or by breaking the residency rules such as moving out for 12+ months or renting out the home.
Using a reverse mortgage to buy gives you increased buying power by allowing you to use the reverse mortgage as part of the purchase. The amount you can use in a reverse mortgage is determined by your age (at least one party of the purchase must be 62+ years old), the market value of the home, current FHA lending limits, and interest rates. Generally speaking a down payment of 45% to 52% is typically required.
So this means if you sell your current home and have $200k in cash available for a down payment, a reverse mortgage could up your buying power to around $350k-$400k, with no mortgage payments due. You can also opt to put more money down to either pay your taxes and insurance automatically for a certain number of years, or give yourself a monthly payment from the bank similar to the traditional reverse mortgage. This can help if you need to shelter some of your cash assets for financial planning reasons.
Closing out a reverse mortgage can happen either when you decide to sell the home or after your death. The sale of the home will be used to pay off the reverse mortgage, just like a traditional loan. If the mortgage has grown beyond the value of the home, you and your family are actually protected by the reverse mortgage. Unlike a traditional loan, any amount owed over the sale price is not required to be paid by you and your relatives. The loan is essentially only attached to the house, not to you. This can be helpful if you are afraid of housing values dropping in the future where you intend to buy.