Basic reverse mortgage terminology
When researching and applying for a reverse mortgage, you will likely hear or read several industry and contract terms. Below are some of the more common terms related to reverse mortgage contracts.
FHA
An abbreviation for Federal Housing Administration. When you apply for an HECM, both the borrower and property must meet FHA eligibility standards. The FHA also approves lenders who can offer HECMs.
HECM
This is an acronym for Home Equity Conversion Mortgage. HECMs are the most common type of reverse mortgage and are federally insured loans backed by the U.S. Department of Housing and Urban Development (HUD). The proceeds can be used for any reason, such as covering monthly expenses, but there is a cap on how much you can borrow plus other restrictions.
HECM line of credit
A reverse mortgage payment option available where you can establish a line of credit and access it when needed. You will only owe and pay interest on the amounts you borrow, not necessarily the entire line of credit.
Home Equity
The appraised value of your home minus what you owe on all mortgages.
Jumbo reverse mortgage
This is another term for a proprietary reverse mortgage offered by private lenders and not federally insured. Using the term ‘jumbo’ also emphasizes that these types of reverse mortgages, because they do not have to adhere to federal lending standards, do not have a cap on how much you can borrow; whereas federally insured loans are currently capped at $625,500.
Lien
A lien is a document or legal claim designed to ensure repayment of a loan or payment for services. Mortgages, including reverse mortgages, are types of liens, in that the lender has the right to claim the property that it loaned the funds to purchase if the borrower fails to make payments.
Minimum Property Standards (MPS)
The Federal Housing Administration (FHA) has developed Minimum Property Standards (MPS) to guide appraisers through the process of determining property eligibility. The MPS dictate the type of properties that are eligible and the condition a property must be in before it can be used for a reverse mortgage.
Mortgage insurance
Federally insured reverse mortgages are designed to protect the lender against default. It also guarantees that if the lender goes out of business, the FHA will continue providing loan funds, plus it ensures that when the property is sold to pay back the reverse mortgage, the borrower will never owe more than the value of the home. To provide this protection, any federally insured loan will include mortgage insurance that is charged to the borrower.
Non-recourse loan
This is a term describing a loan or debt that restricts what a lender can claim in the event a borrower does not repay the debt. For example, a reverse mortgage is a non-recourse loan because if the borrower defaults, the lender can only claim the property that is securitizing the loan; that is, the house from which the reverse mortgage was obtained.
If the borrower defaults on the mortgage, the lender can seize the home and sell it to recover the loan balance. But if the property does not cover the balance of the reverse mortgage, the lender cannot seize other assets from the borrower to make up the difference. The lender, in effect, has no recourse to claim anything other than the house to collect the loan proceeds.
Occupancy certificate
Each year you maintain a reverse mortgage, you will have to sign an occupancy certificate provided by the lender. This is a legal document that certifies that the homeowner continues to own and reside in the home. The lender will send the document to the homeowner around the anniversary date of the reverse mortgage, and the borrower must return it signed in a timely fashion, typically within 30 days. This is done to satisfy one of the key eligibility requirements of an HECM that the borrower(s) lives in the property as their primary residence.
Principal limit lock
This feature allows borrower to lock in the principal limit prior to closing. Since interest rates affect how much you can borrow, the lock-in feature allows the borrower to use today’s rate to reduce the risk of rates increasing — which would decrease available principal — prior to closing. You can typically lock the principal amount for 120 days.
Proprietary reverse mortgages
Proprietary reverse mortgages are offered by private lenders, and are not federally insured. This type of loan is generally less restrictive than HECMs and single-purpose loans. They do not have a cap on what you can borrow, nor do they restrict how much you can receive in the first year.
Right of Rescission
A borrower’s right to cancel a reverse mortgage loan within three business days of closing.
Single-purpose reverse mortgage
This is a type of reverse mortgage available to homeowners to address a single expense, such as home repairs or property taxes. The lender restricts how the lender can use the borrowed funds, and typically will only loan a small amount of the property’s equity. This type of reverse mortgage is offered by government and non-profit agencies and are typically available to low and moderate-income homeowners.
Reverse mortgage terminology related to fees and payments
When researching and applying for a reverse mortgage, you will likely hear or read several industry and contract terms. Many of these terms help explain how much a reverse mortgage will cost you and how much you can expect to receive from the loan. Below are some of the more common terms related to fees and payments.
Available principal limit
This is the amount you can borrow from a reverse mortgage, before upfront fees and closing costs are deducted. The available principal limit is calculated based on your age, the value of your home and the expected interest rate.
Home value limit
For HECMs, the FHA has established a maximum home value of $625,500 from which the loaned amount can be calculated. If your home is valued at, say, $800,000, your reverse mortgage principal limit will be established based on the lesser home value limit of $625,500. There are typically no home value limits on proprietary reverse mortgages.
Lifetime loan rate cap
This is the maximum rate that can be charged at any time on a reverse mortgage with a variable interest rate, regardless of how high market rates rise.
Maximum Claim Amount
This is used to determine the Available Principal Limit. It’s typically equal to your home’s appraised value. But if you are applying for an HECM, the maximum claim amount is the lesser of your home’s value or the FHA home value limit of $625,500.
Monthly advance
This is the monthly payment you will receive from a reverse mortgage if you select either a tenure payment option or term payment option. Monthly advances are the same for the life of the loan.
Monthly service fee
Reverse mortgages charge ongoing service fees that cover administrative costs, such as providing customer service, maintaining records, and ensuring that taxes and insurance are paid. Lenders will typically establish a service fee set aside, deducted from your principal limit, to ensure future payment of the monthly fee. It’s not part of the loan and does not accrue interest.
Mortgage insurance premium (MIP)
Reverse mortgage borrowers are charged an initial mortgage insurance premium (MIP) at closing between 0.5 percent to 2.5 percent, depending on your disbursements. Over the life of the loan, you will be charged an annual MIP that equals 1.25 percent of the outstanding mortgage balance.
Net principal limit
This is the amount of funds available from a reverse mortgage after fees, the initial mortgage insurance premium and other closing costs are deducted from the Available Principal Limit.
Origination Fee
This is a fee the lender charges to get the loan process started. It’s typically 1 percent to 2 percent of the principal limit.
Repair rider
A repair rider may be included in your reverse mortgage contract if the home’s appraiser discovers necessary repairs such as roof damage, plumbing, and electrical issues, or broken windows. Because lenders do not want to take on the risk of financing properties that do not meet building and safety codes, they will stipulate in the contract that the borrower will make the specified repairs or improvements within a designated timeframe of receiving the loaned funds.
Most repair riders stipulate that the repairs be made within six months of closing. Failing to make the repairs as stipulated could cause the borrower to default on the loan. When a repair rider is attached to a reverse mortgage, the loan will include a repair set-aside designated specifically for the purpose of funding home repairs.
Set aside
A reverse mortgage set aside holds funds needed to pay for costs beyond the principal and interest of the loan, similar to an escrow account on a standard mortgage. Set-asides may be established to ensure payment of property taxes, insurance, repairs and service fees, all of which remain the homeowner’s responsibility for the life of the reverse mortgage. Set asides are used to minimize the possibility of defaults due to failing to pay those costs mentioned above, and are deducted from the principal limit on your reverse mortgage.
Tenure payment option
This is a payment option under a reverse mortgage that provides fixed monthly payments for as long as you live in the home. The amount you receive will be based on your age, the value of your home and the expected interest rate.
Term payment option
This is a payment option under a reverse mortgage that provides fixed monthly payments for a specified period.