Reverse mortgages
Reverse mortgage costs and compounding
The main cost is interest, added to the loan because you are not paying it as you go, with fees on top. The balance can grow much faster than a loan you repay each month, and none of the rates below are current rates.
Interest is added to the balance
Each month the lender works out the interest on what you owe and adds it to the loan. Next month's interest is charged on that new, larger balance. That is compounding. The longer the loan runs, the faster the dollar amount of interest grows.
The rate is usually variable, so it can rise or fall. A higher rate makes the balance grow faster. A lower rate slows it. Any figure a lender quotes today can change, which is why this site does not publish a rate as a fact.
This example is illustrative only. The 8% rate is an assumption, not a current rate, and this is not an offer. Assume $50,000 is drawn at the start, nothing is repaid, fees are left out, and interest is added monthly. On those assumptions the balance grows to about $74,500 after 5 years and about $111,000 after 10 years. After 15 years it is about $165,300. A different rate, a smaller drawdown, or any repayment changes the result.
Fees
Expect a valuation, a lender arrangement or legal fee, and a fee when the mortgage is discharged. Optional features, such as regular payments or equity protection, can have their own fees. The amounts differ by lender and change, so use the fee schedule that comes with the offer.
Fees taken out of the advance mean you receive less than the amount borrowed, and the fee itself then earns interest. Ask for the net amount you would receive, not only the gross loan.
Drawing less means less interest
Research for the Retirement Commission notes that a large lump sum at the start leaves interest compounding for longer. Drawing a smaller amount, or drawing it later, slows that growth. It does not remove it.
A standard top up is often cheaper in interest if your income covers the repayments, because the rate is usually lower and you pay the interest as you go. It is a different product, with payments to keep up.
The decision is yours as the homeowner. Family may have a view, and it is worth talking it through, but the choice is yours.
General information only, not advice. We're a referral service and may receive a commission. If a reverse mortgage settles, the lender may pay us a referral fee.
Questions
- Is the 8% figure a current rate?
- No. It is an assumption so the example can be checked. A lender's rate is variable and can change. Ask the lender for the rate on the day, and for what happens when it moves.
- Are the set-up costs paid upfront?
- Often they are deducted from the loan, so you do not pay them from your bank account. They are still added to what you owe, and interest is charged on them.
- Can I slow the compounding down?
- Drawing less, drawing later, or making a voluntary repayment all reduce the balance that interest is charged on. None of them stops interest on what remains.