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The potential pitfalls of a reverse mortgage

It's important for retirees to be aware of

It's important for retirees to be aware of the financial pitfalls of a reverse mortgage, especially if they take out an extremely large loan. Credit: iStock

The second of two parts; read the first part here.

What are the potential dangers of reverse mortgages?

Couples sometimes put only the older spouse on this mortgage to qualify for a bigger loan. That's very dangerous -- because when the older spouse dies, the surviving spouse must pay the full balance of the loan or face eviction.

People also have come to grief when they take the loan as a big lump sum, quickly spend it all and then can't pay their property taxes and homeowner's insurance premiums. You go into foreclosure if you don't make your tax and insurance payments, says Mike Temares, a HUD-certified reverse mortgage counselor at Nassau County Family and Children's Association.

Banks typically require you to take the entire amount at closing if you want a fixed-rate reverse mortgage, and many people instinctively feel safer with a fixed rate. But there's no reason to fear a variable rate with a reverse mortgage, Temares points out, because no payments are due until you sell the house or die.

And taking a big upfront payment substantially increases the cost of the loan. "If you withdraw less than 60 percent of the available loan dollars within the first year, your government insurance costs you 0.5 percent of the appraised value of the house," he says. "On a $500,000 house, that's $2,500. But if you take more than 60 percent in year one -- perhaps to pay off a big existing mortgage or to get a fixed rate -- your insurance costs 2.5 percent of appraised value. On a $500,000 house, that's $12,500."

The bottom line By law, you must speak with a HUD-certified counselor when applying for a reverse mortgage, to ensure that you understand the costs, options and risks. It's best to meet that counselor in person, taking an adult child or trusted adviser with you.

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