According to the Federal Trade Commission, a reverse mortgage works by letting homeowners exchange some of their home equity for cash without selling the home or paying extra monthly bills. The FTC explains that with a reverse mortgage, lenders give homeowners money, and the homeowners usually do not need to pay it back as long as they reside in the home.
The FTC says that reverse mortgages are paid back when a homeowner dies, sells the house or decides to make the home a non-primary residence. Many reverse mortgages have no income regulations, do not affect Social Security and Medicare benefits, and are usually tax-free. Three kinds of reverse mortgages exist: single-purpose, proprietary and private.
According to the AARP, some risks of reverse loans are taking out the loans too early and home equity vanishing too early in retirement. This results in an inability to pay home insurance and property taxes. If homeowners do not pay these, the reverse mortgage is in default, and the home could be foreclosed upon. Another risk occurs when homeowners do not understand loan terms or when brokers do not disclose all of the conditions. The AARP says that people who qualify must be at least 62 years old and own their homes 100 percent or owe an amount tiny enough that the reverse mortgage can pay it off.