Credit card cash advances are widely known to be horrifically expensive means to borrow money. Usually they incur an immediate fee of 3%, 4%, even 5% of the amount received. Interest rates vary, with the most attractive cards charging interest in the high single digits. Many bank cards carry rates in the teens and low twenties.
Reverse mortgage costs feel painless because they are simply added to the amount owed; no check is written. But the charges – which include closing costs, mortgage insurance, and admin fees upon each payment – are real and substantial. Since these costs are added to the loan balance their magnitude increases exponentially over time.
Assume you are 65; own a $300,000 home; and need extra cash for just a few years. Abiding by H.U.D. (the U.S. Department of Housing and Urban Development) guidelines and industry norms, at a 5% interest rate (roughly the national average presently) you might expect tenure payments of $912 per month and closing costs of $7,252. Admin fees of up to $30 (here assume $25) and mortgage insurance at 1.25% of the balance will apply.
After receiving $10,944 during the first year you would owe $19,290. If you paid this off right after receiving your 12th payment, your effective annualized cost of borrowing will have been 207%. If you instead take payments for another year, you will have received $21,888 and owe $32,103. Paying the loan off after your 24th payment will render an annualized cost of borrowing of just over 45%.
To compare, assume you attain the same cash flow with a credit card that charges 15% interest and an upfront fee of 4% for cash advances. Each time you get $912 with the card you would add $948 to your balance. Of course your balance would daily be charged interest.
After the first year, you will have received the same $10,944 obtained with the reverse mortgage, but your debt balance would be $12,198 – bad, but almost $7,000 better than the reverse mortgage. After two years and receipt of $21,888 you would owe the credit card issuer $26,357; again quite awful, but still more than $5,000 better than the reverse mortgage.
A comparison with credit cards implies a short-term horizon. You would never use credit card cash advances in this manner for a period of years. The fact that reverse mortgages are even worse says much. Most likely you would pay off any credit card balance in a fairly short spell. A reverse mortgage salesperson might highlight the ‘benefit’ of not having to make any payments. But as time passes, the loan balance would continue to balloon.
This ballooning of the balance highlights a lethal feature that reverse mortgages have and credit cards do not; a lien. If you have a credit card balance and fall into dire straits, the lender can only sue and settle. With a reverse mortgage, the lender controls your home. Upon death, sale of your home, or foreclosure, the bank will collect all of the cash it gave you plus all fees and interest. If these amount to the full market value of your home or more, so be it.
A credit card puts the bank at risk. A reverse mortgage takes risk away from the bank and puts all potential and actual financial harm squarely on you.
Get the whole picture. Read The Final Rip-Off: Reverse Mortgages available at Amazon and Barnes & Noble.