The term reverse mortgage is everywhere these days. It appears frequently in commercials or appears in Internet searches. But you may not understand what it is exactly.

In short, it is a unique home loan that allows homeowners to convert part of their home equity into cash. This equity that the homeowner has acquired over years of making payments on his home can now be returned to him in installments. In a typical mortgage situation, the borrower pays the lender and each payment reduces the amount owed and increases the value of the borrower’s home. In a reverse mortgage, the borrower receives payments from the lender and each payment increases the loan balance and decreases the principal amount.

Who originates these loans?

Most of these loans are originated by the Federal Housing Administration (FHA) and are known as Home Equity Conversion Mortgages, or HECMs. A HECM is guaranteed by the FHA, so the borrower does not have to worry about missing payments from their lender.

Who qualifies for these loans?

To qualify for this type of loan, homeowners must be 62 or older and have significant equity in their home. Additionally, to obtain a HECM, homeowners must either own their homes directly or the balance they owe on their home must be low enough to be repaid with proceeds from the reverse loan at closing. Additionally, the borrower must reside in the home and be able to pay the recurring charges associated with the property, including taxes and insurance. Finally, before obtaining the loan, borrowers must receive information from a HECM advisor. The applicant’s home must be a single-family home, HUD-approved condominium, or manufactured home that meets FHA requirements, or a two- to four-unit home if the borrower resides in one of the units.

How much can you borrow?

The amount a homeowner can borrow with a reverse mortgage varies based on their age, home equity, and the interest rate on the loan. In most cases, older homeowners can borrow more money, and the more a home is worth or equity the owner has, the more the owner can borrow. Lower loan interest rates also increase a homeowner’s borrowing power.

How do I receive my funds?

With a HECM, borrowers have several options on how to receive their payments. Borrowers can choose to receive a one-time payment at loan closing or the borrower can apply for a line of credit. This line of credit can be used as the borrower chooses and grows over time. A borrower can also choose to receive payments in the form of a monthly annuity. A monthly tenure annuity is a monthly payment that the borrower receives for the entire time he or she lives in the home. A monthly term annuity is a monthly payment that the borrower receives for a specified period of time of their choosing. Borrowers can also choose to combine these options, for example opting to receive a monthly annuity but also taking some cash at closing. By paying a small fee, borrowers can also switch from one option to another.

A reverse mortgage can be a beneficial source of income for seniors. By researching the pros and cons of this type of loan, homeowners can determine if it is right for their financial situation.