What Happens to Heirs When a Reverse Mortgage Borrower Dies
What if your parent or spouse dies, and he or she had a reverse mortgage on her house. Do you inherit the house? Do you have to repay the reverse mortgage loan? Will the reverse mortgage lender make you sell the deceased’s belongings or empty his or her bank accounts to repay the loan? Do heirs have to repay the loan? What happens if you live in the house? This article answers these questions and explores the rights of reverse mortgage heirs.
Reverse Mortgages At A Glance
A reverse mortgage is the opposite of a conventional mortgage. Instead of a prospective homeowner borrowing a lump-sum from a lender to buy a house and then repay the loan over time, a reverse mortgage operates, well, in reverse. In a reverse mortgage, a homeowner receives monthly payments, several lump sums, or one lump sum. In both a conventional mortgage and reverse mortgage, the house is the collateral for the loan. Almost all reverse mortgages offered in the US follow rules set by the FHA. The FHA calls reverse mortgages Home Equity Conversion Mortgages (HECMs), and has clear borrower and property qualifications it requires of homeowners. The three key requirements for a reverse mortgage are:
- The homeowner or homeowners must be age 62 or older
- The homeowner must have a substantial amount of equity in their home
- Before a loan application is accepted, the homeowner must attend counseling to understand the positives and negatives of a reverse mortgage
There are other requirements, too. See the Bills.com articles Qualifications for a Reverse Mortgage and How Much Can I Borrow in a Reverse Mortgage to learn answers to questions many borrowers frequently ask about reverse mortgages.
Reverse Mortgage & Death
Like a conventional mortgage, a reverse mortgage is a claim, which the legal world calls an encumbrance, on a property’s title. Three conditions are built-into reverse mortgages that allow lenders to foreclose or otherwise demand the loan be repaid:
- The home is sold
- The borrower stops using the home as his or her primary residence
- The borrower dies
When one of these three occur, the cash, interest, and other HECM finance charges must be paid. The key question is, who must repay the loan?
Reverse Mortgage Heirs Responsibility
The lender has the right to foreclose when a homeowner with a reverse mortgage dies. If the lender forecloses, neither the decedent’s estate nor his or her heirs are responsible for any shortfall if the balance of the loan is greater than the value of the home. Anyone inheriting the home receives the property subject to the reverse mortgage. An heir can allow the foreclosure, or if he or she wants the home they can either pay the balance due or 95% of the property’s appraised value, whichever is less. Let’s look at three examples that illustrate these rules.
We start with a simple example. An unmarried person dies with no family and a reverse mortgage on their property. The lender forecloses on the decedent’s property, and a court-appointed executor or administrator, in a probate process, oversees the sale of the house. If the house sells for more than the balance of the loan, the executor or administrator distributes any remainder to heirs or according to instructions in the decedent’s will. If the house sells for less than the amount of the loan, the lender must consider the shortfall a loss. The lender has no claim to any other property in the estate. This means the lender may not file a lien on a decedent’s financial accounts, vehicles, or other real property.
Let’s look at a more complicated example. Let’s say a homeowner dies with a reverse mortgage on their home. An heir (a child or spouse, for example) inherits the home through the probate process, and wants to live in the home. The new owner inherits the property subject to the reverse mortgage. Let’s say the home has an appraised value of $250,000, and the loan balance is $50,000. The new owner must pay the lender $50,000. If he or she fails to do so, the lender will foreclose, sell the home, take $50,000 plus the costs of the foreclosure, and pay the heir whatever is left over. Or, let's say the home appraises for $250,000 and the loan balance is $300,000. The heir has the right, if the loan is a HECM, to pay-off the loan for 95% of the appraised value. Here, the heir can retire the loan with a $237,500 payment ($250,000 appraised amount X 95% = $237,500), even though the loan balance exceeds the appraised value.
In our third example, two spouses qualify for a reverse mortgage. After they close the reverse mortgage one spouse dies. The other spouse can remain in the property and will continue to receive monthly reverse mortgage payments, assuming they elected to receive monthly payments, for as long as the loan is funded. When the second spouse dies, sells the house, or takes up residence elsewhere, the loan must be repaid.
Reverse Mortgage Heirs Estate
You have three alternatives to a reverse mortgage if you need cash and want to leave your home to your heirs loan-free:
- Home Equity Loan Plus Life Insurance: If you are house-rich and cash poor, have excellent credit, and little debt, consider home equity loan and a term life insurance plan to pay-off the loan when you die. This alternative assumes you have enough existing cash flow from your retirement income to satisfy a lenders’s debt-to-income (DTI) ratio. In other words, you must be able to satisfy a lender’s requirements to repay the loan and have enough left over to afford a life insurance policy. When you die, the life insurance policy beneficiary will use the benefit to pay-off the home equity loan.
- Reverse Mortgage Plus Life Insurance: If you cannot qualify for a home equity loan because of an insufficient credit score or DTI, consider a reverse mortgage coupled with a term life insurance plan. You buy a term life policy for the amount of the loan. Alternatively, you work with an heir, such as your adult child who wants to inherit your home, and explain your plan for a reverse mortgage. Explain that if he or she wants to inherit your home, they need to bear the burden of paying for a term life insurance policy. If your potential heirs do not want to inherit your home, then you can skip the life insurance.
- Ask For Help: Sometimes, off-loading one expense can make all of the difference in a monthly budget. If a family member expects to inherit your home and has financial resources, explain your situation and that you contemplate a reverse mortgage. For the annual cost of an insurance policy, such as those discussed in the first two points above, you may be able to avoid the expense of a loan if a family member pays one or two of your monthly bills.
Reverse Mortgage On Home You Wish to Inherit
If you believe you may be an heir to a home with a reverse mortgage, and you wish to inherit the property free-and-clear of the mortgage, your only option is to buy a term life insurance policy for the homeowner that names you as the beneficiary. Buy a policy in an amount equal to the market value of the property or $625,500, whichever is less if the reverse mortgage is a HECM loan. The maximum amount may be greater if the loan is not a HECM reverse mortgage.
Reverse Mortgage & Conventional Mortgage Inheritance Compared
When it comes to inheritance, reverse and conventional mortgages have a lot in common. However, there are key differences, as shown in the Reverse vs. Conventional Mortgage & Inheritance table below.
|Homeowner Owns Home…|
|…Free & Clear||…With Conventional Mortgage||…With Reverse Mortgage|
|Upon Homeowner’s Death…||Ownership rights pass to heirs via probate process according to owner’s will or state law. If married, rights may pass to spouse or co-owner directly or via probate depending on the title. Or, if home is in a trust, the ownership rights will change according to the trust’s instructions.*|
|In the Probate Process…||Executor or administrator files deed to transfer home to heir(s), depending on will, and if property is subject to claims against the estate.||Ownership rights transferred to heir. Heir owns home subject to mortgage.|| Ownership rights transferred to heir, subject to reverse mortgage. |
1) Heir must pay balance due, or…
2) 95% of appraised value.
In either event, estate not liable for reverse mortgage loan balance.
|Which Results In…||Heir owns property free & clear, unless property must be sold to satisfy debts.*|| 1) Joint borrower / co-owner (if any) may continue mortgage payments, or… |
2) If not a joint borrower, heir must pay mortgage balance due upon title transfer.
| Depends on heir’s actions: |
1) Allow lender to foreclose, or…
2) Repay loan balance or pay lender 95% of appraised value, whichever’s less.
|* Homeowners should have a will to spell out how property ownership rights are transferred upon death. Alternatively, homeowners should place their property in a living trust to avoid the probate process and potential taxes. A third alternative is to consult with a lawyer who has property law experience to title the home such that ownership rights pass to a certain person upon the owner’s death.|