Reverse Mortgage Definition
A reverse mortgage is a type of mortgage loan available in Canada that is designed for homeowners 55 years and older.
In exchange for cash from the lender, the homeowner will give a mortgage to the lender for up to 40% of the home equity. The bank will pay the proceeds of the mortgage to the homeowner as a lump sum or as periodic payments.
Payments to the homeowner will not be considered taxable income. Interest will accrue at a set mortgage interest rate, but will not be required to be paid as long as the homeowner resides in the home. The homeowner retains the right to repay mortgage payments. Provided property taxes are paid, the homeowner will have the right to reside in the home for life.
If not repaid previously, the reverse mortgage will be repaid upon the sale of the property by the homeowner or upon the death of the homeowner. If the property is sold for more than the mortgage balance, the heirs of the homeowner receive the difference. If the home sells for less than the mortgage balance, the heirs owe nothing to the mortgage company.
Example
Mr. McGillicuddy owns a home worth $300,000 and a first mortgage of $50,000, constituting a net equity of $250,000. Mr. McGillicuddy is 62, and needs money for monthly living expenses. Mr. McGillicuddy takes out a reverse mortgage for $100,000, or 40% of the home’s equity. Mr. McGillicuddy chooses to receive monthly payments of the $100,000.Mr. McGillicuddy uses a portion of the mortgage payments to pay real estate taxes and maintenance, as well as payment on the remaining $50,000 mortgage.
At death, the property is worth $400,000, a first mortgage balance of $20,000 and a reverse mortgage balance of $175,000. The heirs of Mr. McGillicuddy receive $205,000, or the sale price of the property less the balance of the 2 mortgages.
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Advantages of a Reverse Mortgage
A reverse mortgage can be beneficial to older homeowners in Canada. If a homeowner is “property rich but cash poor”, a reverse mortgage provides the homeowner with income through the equity in their home. Unlike a typical home equity loan, a reverse mortgage does not have to be repaid during the life of the homeowner, thereby protecting a homeowner from the possibility of foreclosure. The homeowner is assured that they may remain in their home, and retain a monthly income. In addition, the income is tax free, so it will not affect other retirement benefits.
Disadvantages of a Reverse Mortgages
Reverse mortgage interest rates are sometimes a few interest points higher than a normal mortgage, although rates have recently become more reasonable due to new licensing obtained by the Canadian provider of reverse mortgages.
In addition, if the homeowners desire to leave their home to their heirs, a reverse mortgage will greatly reduce the equity in their home. However, in most cases, due to the limited amount that can be borrowed through a reverse mortgage, the heirs inheritance is still somewhat protected, albeit diminished by the amount of the mortgage.
Horizon Equity, a division of First Foundation, has plenty of experience with arranging a Canadian reverse mortgage. We can discuss with you the pros and cons of a reverse mortgage and assist you in determining if it is the right choice for you. Contact Horizon Equity now.
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