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No payments! Buy a home with a reverse mortgage

You've probably heard that a reverse mortgage can allow you to stay in your home while also generating a regular stream of cash. But what if you want to move? A reverse mortgage can be used to buy a new home as well. Here's how.

If you're a senior citizen, especially one who is retired, you are likely to have special concerns when it comes to issues like homeownership and cash flow. Your income is likely to be less than it was when you were working. You probably have a lot of home equity, but may have less cash than you'd like. Medical issues may be worrisome, housing needs can change and it can be harder to qualify for financing with less income available. Reverse mortgages are designed to address these concerns.

Purchasing a home in retirement: How a reverse mortgage can help

While many homeowners see the benefits of a reverse mortgage for accessing home equity, the advantage conferred when using one to purchase a new home is less apparent. But it's definitely there. Here's an example:

A couple decides that they want to sell their large family home and move to a location with a lower cost of living, into a smaller home with fewer maintenance issues or nearer to their grown children. Their home is worth about $600,000, and they'll end up with $300,000 after the sale. In addition, they have another $100,000 saved.

They find a nice home in their new town for $400,000. They could use their entire savings to buy it outright. They'll have no mortgage payment, but they'll have no cash in reserve, either. They'd feel more comfortable if they could keep some of the proceeds from the sale of their old home and have a larger financial cushion.

The cheapest way to accomplish this would be to just buy the new home with a traditional mortgage -- current mortgage rates make that a very attractive option. But what if the couple doesn't earn enough to qualify for a home loan in today's tough underwriting environment? Stated income loans are no longer available.

What if the couple's credit rating has suffered? Or what if they just don't want monthly mortgage payments hanging over their heads?

One alternative is to buy their new home with a reverse mortgage. If the youngest borrower is 65, they could get their $400,000 home by putting $200,000 down and taking a reverse mortgage with a lump sum distribution of $200,000. That leaves them with no house payment, a $400,000 home, and $200,000 in the bank.

How much can you finance with a reverse mortgage?

The amount of money available with a reverse mortgage depends on the value of the home, current interest rates and the age of the youngest borrower. The National Association of Reverse Mortgage Lenders features a reverse mortgage calculator on its site that shows you how much credit you'd be extended if you took out a Home Equity Conversion Mortgage (HECM), which is a government-backed loan and by far the most popular reverse mortgage product. HECMs do come with limits, just like FHA loans. If you have a more expensive property, a proprietary or jumbo reverse mortgage from a private lender may better meet your needs. You may be able to get a larger loan amount, cash out a higher percentage of your home's value or be eligible for financing at a younger age with these lenders. Be prepared to pay for the privilege, however. More risk to the lender means more fees to you.

How much does a reverse mortgage cost?

HECMs come with about the same closing costs as FHA mortgages, including origination fees (some reverse mortgage lenders are waiving these -- be sure to shop with several), title charges, appraisal expenses and upfront mortgage insurance premiums. However, the way the insurance charge is calculated makes a big difference in what you pay. With a traditional FHA mortgage, your insurance is based on your loan amount. So if you were to buy a $400,000 house with a $200,000 mortgage, your upfront insurance premium would be 1.75 percent of $200,000, or $3,500. But if you buy a $400,000 home with a $200,000 HECM, the insurance is calculated based on the home's value. The upfront insurance is 2 percent of $400,000, or $8,000. As with FHA mortgages, there is annual mortgage insurance too.

Although you don't make payments, you also have interest expense, of course. Lump sum distributions, unlike reverse mortgage proceeds taken as a line of credit or regular monthly payments, can be financed at a fixed interest rate. All other options must be financed with variable interest rates. Finally, you have service or administrative charges.

While HECM mortgage fees are limited by law, you still need to shop to get the best mortgage rate. Proprietary products are less regulated, so shopping can be complicated, but you can get help. Reverse mortgage counseling is required for HECM borrowers and a good idea for anyone considering any reverse mortgage.

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