Home Loan Primers

How does Reverse Mortgage work?


Thursday,6th September 2007

Let us take the example of Suresh Menon, who used to work in an automobiles company and retired recently. He has two married sons with well-paid jobs, but the last thing Menon wants is, to be dependent on them. Menon owns a house in a decent locality in Bangalore, worth about Rs 75 lakh. But he has savings of only Rs 10 lakh (mostly in fixed deposits), not enough to ensure him an adequate post-retirement income.

Menon requires around Rs 15,000 a month to meet his needs, but can earn only Rs 10,000 from his financial assets. What’s more, the value of his financial assets will keep falling because of inflation.

So a reverse mortgage may be the best option for Menon.

So what kind of income can Menon expect by reverse mortgaging his property? That will depend on interest rates, his age and the percentage of the loan against property that the bank is willing to lend.

The interest rates will generally not be more than loans against property, which are between 12 per cent and 15 per cent at the moment. Banks and housing finance companies determine the interest rate on reverse mortgage according to the risk perception and loan pricing policy, among other things. Then, there is the quantum of the loan. This varies from bank to bank, ranging from 60 per cent of the property value to as high as 90 per cent.

The monthly loan amount from mortgaging the house also depends on the borrower’s age; higher the age, higher the monthly loan amount. Now, if Menon opts for a reverse mortgage, he and his wife will get regular monthly loan payouts for a period of 15 years, usually the maximum tenure offered by a bank. The couple can continue to stay in the house during their lifetime.

After their demise, the bank can sell the house and use the proceeds to recover the outstanding amount of the loan, and hand over the remaining to the heirs. Alternatively, the heirs can repay the outstanding amount and keep the property. If the value of the property is less than the outstanding amount, the bank can not claim the rest from the heirs.

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