What is Reverse amortization? Reverse amortization is a term you may have heard tossed around, but don’t know what it means. In short, reverse amortization is the process of increasing the monthly payments on an existing loan in order to pay it off more quickly. This can be important for seniors who want to get rid of their mortgage before they retire. In this blog post, we will discuss what reverse amortization is and how it works.
Reverse amortization is the opposite of paying off a loan in level payments. Instead, you pay more each month at the beginning of your loan, and less each month in the end. The balance of your loan decreases more quickly than it would if you made level payments.
Key Takeaways:
- Reverse mortgages, also called Home Equity Conversion Mortgages (HECM), are only available to homeowners 62 or older with substantial home equity.
- Reverse amortization is a type of mortgage in which the payments are made to the lender, and the loan balance increases over time.
- Reverse mortgages can be repaid by selling the property or refinancing. Another option is a home equity line of credit (HELOC).
How does reverse mortgage amortization work?
One of the most important documents associated with a reverse mortgage is the amortization schedule. This document provides borrowers with a snapshot of how the loan is expected to perform in the future, and it is key to understanding how the loan works. The amortization schedule takes into account the interest rates and draws amounts that will be in place when the schedule is executed, and it shows how the loan balance and line of credit will fluctuate over time.
Reverse Amortization Table Schedule
A basic example of a 5-year amortization table is provided below. In this hypothetical situation, a borrower obtains a reverse mortgage on a $100,000 property. They obtain $50,000 in cash as a lump sum and the remainder as a line of credit. The amount that the borrowers will pay in interest, as well as the overall debt on their loan over time, may be found in the example reverse mortgage amortization plan in the following:
| $50k Advance | 5% Interest Rate | |
| Year | Interest | Balance |
| 1 | $2,500 | $52,500 |
| 2 | $2,625 | $55,125 |
| 3 | $2,756 | $57,881 |
| 4 | $2,894 | $60,775 |
| 5 | $3,038 | $63,813 |
It should be noted that the preceding example does not cover all of the costs involved with a reverse mortgage. These could include:
- Mortgage insurance from the FHA
- Fees for origination
- Closing expenses
- Tax
- Checks on credit
When is a reverse mortgage due and payable?
A Reverse mortgage loan is a loan that homeowners obtain when they have home equity. This opens in a new windowloan is repaid when the borrower moves or dies. The loan can be paid off in full, or the borrower can choose to use it to pay off other debts, such as credit cards or medical bills.
Reverse mortgages are also known as opens in a new windowHome Equity Conversion Mortgages (HECM) and can only be used by homeowners who are 62 years of age or older and who have substantial equity in their homes.
It’s important to acknowledge that the amount you receive from a reverse mortgage depends on the value of your home, your age and interest rates at the time you apply for the loan. You can use this money for any purpose you wish, such as paying off your mortgage balance, paying for home repairs or medical bills and even travelling.
If you get behind on homeowners insurance premiums or fail to pay property taxes on the money you receive from this type of loan, then you may lose your home.
Reverse Mortgage Heirs’ Options
Senior citizens who want to tap into their home equity, but are concerned about losing their homes to creditors, can take out a reverse mortgage. This is a loan that provides funds in a lump sum or monthly payments based on the equity in your home, minus any outstanding debts. However, if you are considering taking out a reverse mortgage and you have heirs, it’s important to understand what options they have when it comes time to pay off the loan or pass away.
When a HECM borrower or an eligible non-borrowing spouse dies, the loan becomes due and payable. opens in a new windowEither the full loan balance or 95% of the home’s appraised value will have to be paid back (whichever is less). While this may seem like a burden for the heirs, it is important to remember that the borrower was able to live in their home for many years without having to make any monthly mortgage payments.
In addition, some heirs may not have enough money to pay off the loan debt and may be forced to sell the home to settle the reverse mortgage loan. If the loan total is greater than the home’s value, your heirs will not be required to pay the shortfall. If your heirs sell the house, the lender will accept the selling profits as loan payment, and the opens in a new windowFHA insurance will cover any leftover loan debt.
How interest rates affect amortization schedules
As a senior, it is helpful to understand the mechanics of how amortization works. When you take out a loan, the payments are structured so that you pay down both the principal—the original amount you borrowed—and the interest on that loan over time. In the early years of the loan, when the principal is higher, most of your payment goes towards interest; as the loan progresses and the principal gets paid down, more of your payment goes towards the actual amount you borrowed.
An amortization schedule helps you understand this process by laying out your periodic payments and showing how much is going towards interest and how much is going towards the principal each time. This can be helpful in budgeting for your loan payments and understanding how long it will take to pay off the loan. Knowing this information can help you make informed decisions about taking out a loan and help you plan for repaying it over time.
What does the amortization schedule include?
| Table 1: Mortgage Amortization Schedule | ||||
|---|---|---|---|---|
| Month | Total Payment | Principal Payment | Interest Payment | Outstanding Loan Balance |
| 1 month | $1,013.37 | $263.37 | $750.00 | $199,736.63 |
| 2 months | $1,013.37 | $264.36 | $749.01 | $199,472.27 |
| 3 months | $1,013.37 | $265.35 | $748.02 | $199,206.92 |
| 180 months (15 years) | $1,013.37 | $516.62 | $496.75 | $132,467.91 |
| 240 months (20 years) | $1,013.37 | $646.70 | $366.67 | $97,779.45 |
| 300 months (25 years) | $1,013.37 | $809.53 | $203.84 | $54,356.57 |
| 360 months (final payment) | $1,013.37 | $1,009.58 | $3.79 | $-0.00 |
Source: ERATE mortgage payment calculator
The amortization schedule includes the following:
- Total Payment
- Principal Payment
- Interest Payment
- Outstanding Loan Balance
A 30-year, fixed-rate mortgage is a popular loan option among borrowers because it offers a predictable monthly payment over the life of the loan. In this example, the monthly payment would be $1,013.37 for a loan of $200,000 at a 4.5% interest rate.
While the monthly payment remains the same, the amount applied to principal and interest changes each month. In the beginning, more money is applied to interest and less to the principal balance.
As the years go by, gradually more money is applied to the principal and less to the interest. At the end of 30 years, the entire loan will have been paid off. This type of loan is ideal for borrowers who want stability and don’t mind paying more interest in exchange for a lower monthly payment.
As you can see, each time you make a payment, your outstanding loan balance goes down.
Keep in mind that this is just an example; your actual amortization schedule will be different based on the loan amount, interest rate, and term of your loan.
Adjustable-Rate Amortization Example
An adjustable-rate mortgage, often known as an ARM, is a house loan with an interest rate that changes over time depending on market conditions. ARMs often begin with a lower interest rate than fixed-rate mortgages, making them an excellent choice if your objective is to obtain the lowest feasible mortgage rate at the outset.
This interest rate, however, will not endure forever. After the initial time, your monthly payment may fluctuate on a regular basis, making it difficult to budget.
For example:
Mortgage lenders set ARM rates by taking an index rate and adding an agreement quantity of percentage points, known as the margin. The index rate can fluctuate, but not the margin. For example, if the index is 1.25 % and the margin is 3 percentage points, the interest rate is 4.25 percent.
Fixed-Rate Amortization Example
Amortized fixed-rate mortgage loans are among the most common types of mortgages offered by lenders. These loans have fixed rates of interest over the life of the loan and steady installment payments.
A fixed-rate amortizing mortgage loan requires a basis amortization schedule to be generated by the lender.
Example:
For instance, if you have a 30-year fixed-rate mortgage, your mortgage will be completely paid off after 30 years of monthly payments. Since your interest rate is determined, you will know precisely how much you’ll pay over the term of your loan.
Amortized fixed-rate mortgage loans are popular because they offer borrowers stability and predictability with their monthly payments. As a result, these loans are often used by borrowers who are planning to stay in their homes for several years or more.
Understanding the numbers
One of the most important parts of taking out a loan is understanding your amortization schedule. This document provides a snapshot of your loan over a number of years and includes all loan components. While this may look complicated at first, we are going to provide resources to help you understand it better.
We recommend using:
opens in a new windowFREE Reverse Mortgage Amortization Schedule
opens in a new windowFREE Reverse Mortgage Amortization Calculator
What is a HECM Reverse Mortgage?
A home equity conversion mortgage (HECM) reverse mortgage is a government-insured loan that allows homeowners 62 years of age or older to cash in on the equity they’ve built up in their homes. No repayment is required until the borrower moves, sells, or dies. At that time, the loan must be repaid in full, plus any interest and fees that have accrued.
opens in a new windowHUD insures the lenders against loss, so borrowers can feel confident that they will not owe more than their home is worth at the time the loan becomes due. HECM reverse mortgages are an attractive financial option for seniors who want to remain in their homes but need extra income to cover living expenses.
Prepare for Closing Costs and Other Fees
When you’re taking out a mortgage, it’s important to be prepared for closing costs and other fees like mortgage insurance. Closing costs are the fees charged by your lender to cover the costs of processing and approving your loan. These fees can vary depending on the type of loan you’re getting.
Other common fees include origination fees, appraisal fees, and title insurance. Be sure to ask your reverse mortgage professional about all the fees you’ll be responsible for before you agree to take out a mortgage. It’s also a good idea to get an estimate of these costs so you can factor them into your budget.
Second Appraisals on Select Reverse Mortgages
If you’re considering a reverse mortgage, you may be wondering if you’ll need to get a second appraisal. The answer depends on the type of loan you’re getting and the value of your home.
For HECM loans, HUD requires that all homes be appraised by an FHA-approved appraiser. If the appraised value of your home is less than the sales price, you may be required to get a second appraisal. This is because HUD only insures loans up to the appraised value of the home.
The Federal Housing Administration (FHA) opens in a new windowhas announced a new policy regarding home appraisals for reverse mortgages. Going forward, lenders will be required to provide a second appraisal on loans where the FHA has flagged potentially inflated property values. This change is designed to protect borrowers from taking out loans that exceed the true value of their homes.
It also underscores the FHA’s commitment to responsible lending practices and ensuring that borrowers are able to make informed choices about their reverse mortgage options. We believe this new policy strikes the right balance between protecting borrowers and ensuring that they have access to the benefits of reverse mortgages.
Reverse Mortgage Payment Options
There are different ways that you can receive the proceeds from the most popular type of reverse mortgage: the home equity conversion mortgage (HECM). opens in a new windowThe U.S. Department of Housing and Urban Development (HUD), which regulates HECMs, calls the choices “payment plans.” The options are as follows:
Single DisbursementLine of Credit
The most popular type of reverse mortgage is the opens in a new windowhome equity conversion mortgage (HECM), which is regulated by the U.S. Department of Housing and Urban Development (HUD).
HUD offers two different types of HECMs: the single disbursement lump sum payment option and the line of credit payment option.
With the single disbursement lump sum payment option, you receive all of the proceeds from your loan in one lump sum. This option might be best if you need a large amount of money right away, for example, to pay off medical bills or make home repairs.
With the line of credit payment option, you can withdraw funds as needed, up to your available credit limit. This option gives you the flexibility to cover unexpected expenses or take advantage of opportunities as they arise.
No matter which payment option you choose, you can always elect to receive a portion of your proceeds in a lump sum. This is a good way to make sure you have some cash on hand for unexpected expenses.
Regular Periodic Payments
In addition to the two different types of HECMs, HUD also offers two different ways to receive your reverse mortgage proceeds: as a regular periodic payment or as a lump sum.
With the regular periodic payment option, you receive equal monthly mortgage payments for a set period of time, typically between five and 30 years. This option might be best if you need a steady stream of income to supplement your retirement.
Modified Combination Payments
If you are considering a reverse mortgage, we encourage you to speak with a opens in a new windowreverse mortgage professional to learn more about your options and what might be best for your situation.
What is reverse amortization FAQs
What is a reverse amortization mortgage?
Reverse amortization is a type of mortgage in which the payments are made to the lender, and the loan balance increases over time. The borrower does not make any payments to principal or interest, and the only way to repay the loan is to sell the property or refinance the loan.
What is the difference between amortization and negative amortization?
Assuming you’re not an economics major, the term “amortization” might sound like a mouthful. But it’s actually a very simple concept. Amortization is just a fancy way of saying “paying off a loan.” When you take out a loan, you agree to pay back the amount you borrowed, plus interest. (Interest is the fee the lender charges for loaning you money.) Usually, you make regular payments on the loan until it’s paid off. with each payment, the amount you owe goes down. That’s amortization.
Negative amortization occurs when you’re not paying enough to cover the interest on your loan. As a result, even when you make a payment, the amount you owe still goes up. This can happen if your payments are too low, or if interest rates go up after you take out the loan. Either way, it’s not a good situation to be in.
How does a reverse mortgage get paid back?
A reverse mortgage can be paid back in several ways, the most common of which are to sell the property or refinance the loan. Other options include paying off the loan with a home equity line of credit (HELOC).
Conclusion
Reverse amortization is an important tool that can help you stay in your home and age in place. If you are considering a reverse mortgage, we encourage you to schedule a free consultation, please don’t hesitate to call me today. My team of experts are standing by ready to help you take the next step on your financial journey to learn more about your options and what might be best for your situation.
