Everything you need to know about reverse mortgages

For older Canadian homeowners, a reverse mortgage can be the perfect way to generate tax-free funds without sacrificing quality of life. You stay in your home. You don’t need much income or perfect credit. And you don’t have to make loan payments, ever. We know those terms sound almost too good to be true, but a reverse mortgage is simply a quick, practical way to withdraw some cash value from your home before you sell it. Here’s how it works.

Once you are approved for a reverse mortgage, the bank will assess the value of your home. That helps the bank determine the loan they will issue, which represents up to 55% of your home’s value. Eventually, when the home is sold or the last borrower passes away, the bank reclaims the funds (plus interest) from the proceeds. But until that day comes, you don’t owe them a cent.

It’s as if the bank is helping you convert your home into cash long before you sell it. That’s why the reverse mortgage is sometimes called an “equity release.” Generally speaking, equity in your home is the biggest requirement needed to receive a reverse mortgage. Lenders typically want you to have at least 50% equity established, meaning you’ve paid off more than half of your original home mortgage. You’re also required to be 55 years of age, as is anyone else listed on the home’s title. For more reverse mortgage requirements, read on. 

Reverse mortgage requirements

The qualifications for a reverse mortgage are fairly easy for many Canadian homeowners to meet, hence the increasing popularity of this type of loan. Here are the major requirements: 

• Everyone listed on the home title must apply together as joint borrowers. 

• Every borrower must be at least 55 years old. 

• The home must be your primary residence, meaning you live there at least six months per year. 

• The home must be either detached, semi-detached, a condominium, or a townhouse. 

• The home must be located in certain areas and must be maintained in reasonably good condition. 

You don’t need to have a minimum income or a perfect credit rating. Remember, there are no monthly or yearly premiums on a reverse mortgage, so the bank isn’t worried about your ability to make regular payments. 

Reverse mortgage example 

Faye and Jess are retirees in their late 60s. They want to buy a small summer home but need to raise funds to complete the deal. While their income is relatively low, they fully own their home, valued at $500,000. So, they apply for a reverse mortgage for 40% of the home’s value: $200,000. This allows them to make the purchase with some funds left over for travel and other fun discretionary spending.  

Because the loan does not count as income, Faye and Jess pay no taxes on it, and it does not affect their Old-Age Security or Guaranteed Income Supplement benefits. And because they don’t have to make any monthly payments, the loan doesn’t eat into their daily budget. Most importantly, they continue to live in and own their home.

The couple may repay the loan at the end of its five-year term to cut down on interest accrued, thus passing on more money to their kids. Or they may never repay it. Instead, their children will inherit the house and repay the loan with proceeds from its sale, keeping the rest for themselves. The flexible repayment terms of a reverse mortgage allow the couple to make this choice along the way. 

How much money can you borrow in a reverse mortgage? 

You can raise up to 55% of the value of your home. As part of your loan application process, you’ll need to have the property appraised by an independent party. This appraisal represents the fair market value, and you can borrow up to 55% of that number. The absolute minimum amount a bank will issue as a reverse mortgage is $20,000 and the maximum is $750,000. 

Is a reverse mortgage taxable? 

No. The money you borrow doesn’t count as income, so you do not pay taxes on it. It also doesn’t affect your eligibility for federal benefits, like Old-Age Security or the Guaranteed Income Supplement. 

How can I use the money from a reverse mortgage? 

There are almost no restrictions on how you use the funds you borrow in a reverse mortgage. If you have an existing mortgage or loan secured against your home, the money from a reverse mortgage must first be used to repay those loans. Beyond that, it can be used entirely at your discretion. That means you can travel, buy another home, invest in luxuries, or share your wealth with your family.  

Are there any additional costs or fees involved in a reverse mortgage? 

Yes. In order to obtain a reverse mortgage, there are three fees you’ll need to cover: 

• The appraisal fee: You’re required to get an independent evaluation of your home to establish its value. This is how the bank determines a reasonable size for your loan. You will need to pay for this appraisal process. 

• Independent legal advice: You’re also required to consult with a lawyer of your choosing before proceeding. This is for your own protection, and it ensures that you fully understand the costs, benefits, and risks of taking out a reverse mortgage. 

• Setup/closing and administrative costs: The bank that issues your reverse mortgage will charge a one-time fee for the services involved in issuing your loan. This is generally the largest of the three fees, and it is typically subtracted from the final loan amount. This means you don’t have to pay it out of pocket. 

Altogether, these fees will cost you anywhere from $1,800 to $3,200. You will be able to exert some control over the final number by seeking out affordable professional services. 

Will the bank own my home? 

No. You still own your home after taking out g a reverse mortgage. Your name is still on the title and you’ll continue living in your home without interruption. The only change is that you now owe some of your home’s value to the bank. Conceptually, it’s not very different from any other loan. 

Are there any downsides to a reverse mortgage? 

Reverse mortgage interest rates tend to hover around 5-7% — somewhat higher than a conventional mortgage (3-4% interest) or a home equity line of credit (3.5-5.5% interest). This means reverse mortgages can be more expensive than alternative financing strategies. 

On the other hand, a reverse mortgage has no monthly repayment requirements (unlike a conventional mortgage or line of credit), which can be incredibly helpful. That’s the benefit you’re paying for with higher interest rates. It’s also important to note that reverse mortgage interest rates are far lower than some other common financing strategies, such as personal loans (8-12% interest) and credit cards (12-23% interest). 

Could I lose my home? 

This is possible. Some ways you could lose your home would be if you stopped doing essential maintenance, allowing it to seriously deteriorate, or if you failed to keep your property taxes and homeowner’s insurance in good standing. These requirements are only in place to protect the value of the home, so that you and the bank can recoup your investment. 

If you do begin struggling to maintain these obligations, the bank will first try a range of helpful strategies to get you back on track. This could include loaning you additional reverse mortgage funds to help you cover your immediate costs. Foreclosure would only be used as a last resort. 

When do I repay a reverse mortgage? 

A reverse mortgage must be repaid when you sell your home, move out, or when the last borrower passes away. But don’t worry – the bank will not expect repayment from you or your heirs immediately when these events come to pass. You will have anywhere from 3-12 months to repay the loan, depending on how it’s being repaid and your bank’s specific terms. In other words, if your children inherit your house, they’ll have up to a year to sell it, pay off the outstanding loan, and keep the proceeds. 

But you don’t need to wait for one of those major life events to transpire. You can repay a reverse mortgage at any time you choose – even just a few months after it’s issued. Depending on when you do this, the bank may charge you a prepayment fee. Even with any associated fees, repaying the loan early can work in your financial favour by protecting you from accruing interest. 

How do I get the money? 

The money from a reverse mortgage can be disbursed to you in several different ways. You can receive it as a lump sum, or in smaller regular payments, depending on your preference. If you prefer smaller infusions, your bank will issue recurring payments monthly, quarterly, biannually, or annually.  

Smaller, more frequent payments can be extremely helpful for people who have trouble budgeting. For people who need to cover a single major expense (e.g. down payment on an additional property), the lump sum option will be better. 

Do reverse mortgage interest rates change? 

The interest rates for your reverse mortgage are fixed for the length of your term (typically five years). At the end of the term, you can repay the loan without any prepayment penalty or you can let the loan auto-renew. If the bank renews your loan, it may adjust the interest rate, depending on a variety of variables. In any case, dramatic rate changes are unusual. The typical interest rate for a reverse mortgage is around 5-7%. 

How do changing property values affect my reverse mortgage? 

Home values in Canada have grown on average, by 6.4% annually over the past 15 years. This is great news for reverse mortgage holders, because any increases in the value of the property are yours to keep. And it means that your home equity can outpace your loan interest, so your equity grows even if you don’t make any loan or mortgage payments. 

For instance, imagine that your home is worth $200,000. You take out a reverse mortgage for 25% of the home’s value, i.e. $50,000, at an interest rate of 4.5%. After a year, your loan principal has increased by $900. But say your home value grows by 6% — i.e. $12,000. Even after subtracting the value of the loan (which you’ll eventually have to repay), you’ve still gained $11,100. 

Of course, Canadian property values are not guaranteed to grow and have been declining in some areas recently as interest rates have risen. This is a risk that affects every homeowner, and it’s one that reverse mortgage borrowers should take into consideration. Fortunately, you’ll never end up owing the bank more than the house is worth (see the next question).  

Can I end up owing more than my home is worth? 

No. With a reverse mortgage, you cannot owe the bank more than your home is worth. Reverse mortgages are structured so that the lender absorbs the loss if property values fall.  

Imagine that you take out a $100,000 reverse mortgage on a house that was originally worth $300,000. A few years later, you move into an assisted living facility, and the loan must be repaid — but now the housing market has crashed and your house is only worth $80,000. You don’t have to come up with $20,000 extra dollars to make good on the loan. You simply sell your house for $80,000 and give that to the bank. Your loan is now fully paid off and you have no further obligations.

How does a reverse mortgage affect my heirs?

Upon receiving an inheritance (i.e. your home plus the outstanding loan), your children or heirs have three options: They can sell the home, retain it, or walk away.

• Sell the home: Imagine your kids inherit your house, worth $500,000, as well as the outstanding loan from your reverse mortgage, which amounts to $100,000. Your kids can sell the house to any willing buyer for $500,000, use the proceeds to pay off the $100,000 loan, and keep the $400,000 difference for themselves. 

• Retain the home: Maybe your children love the old house. Perhaps one of them wants to live in it. Or maybe they believe it’ll be worth a lot more in a few years, and they’re simply not ready to sell now. In any of these cases, they can  repay the loan via their own funds and keep the house. Even if they don’t have enough cash on hand to pay down the loan, they may be able to open a conventional mortgage on the property and pay it off over time. 

• Walk away: What if the outstanding loan is worth as much as (or more than) the property? Or what if your heirs simply don’t have the time and energy to sell your home? This happens sometimes, and it’s never a problem for the heirs. They can always sign the deed over to the lender, turn over the keys, and wash their hands of the whole situation.  

In summary, your heirs will always have options if they inherit your home and the reverse mortgage loan associated with it. They will never be forced to pay your debt out of pocket and may still gain financially depending on the size of your estate and how they manage it.

Who issues reverse mortgages in Canada? 

At this time, there are two major Canadian lenders that issue reverse mortgages: 

The first is HomeEquity Bank, the nation’s biggest lender of reverse mortgages, which offers a loan called the CHIP (Canadian Home Income Plan) reverse mortgage. This loan is available broadly across Canada for properties worth $150,000 or more. 

The second lender is Equitable Bank — the smaller and more selective of the two lenders. Equitable Bank only issues reverse mortgages for properties valued at $250,000 or more, and only in the major cities of Quebec, Ontario, Alberta, and British Columbia.  

What are some good alternatives to reverse mortgages? 

Reverse mortgages are often the best option for seniors on a limited income who might not qualify for other forms of credit. But for people with more income or earning power, an alternative like a Home Equity Line of Credit (HELOC) may be preferable.  

A HELOC allows homeowners to secure a line of credit using their home as collateral. Once established, the “line of credit” is simply a revolving account. Like a credit card, it can be used to pay for purchases up to your credit limit, at which point you need to pay it down, plus interest. HELOCs generally offer better interest rates than reverse mortgages, making them financially preferable in some cases. 

Interested? Learn more about Home Equity Lines of Credit.