Many seniors consider reverse annuity mortgages (RAMs) as a means of generating extra income, obtaining cash to cover increasing expenses, or securing funds for investment opportunities that may offer high rates of return. RAMs can provide the ideal solution to financial difficulties or help you maintain financial independence in later years by taking advantage of accumulating equity; however, understanding the terms and conditions can be very confusing and it is important that you are aware of all the implications before you make any decisions.

A reverse annuity mortgage is a type of home equity loan that allows homeowners to convert equity into cash while still maintaining ownership of their property. The lender will give the borrower a loan amount determined by factors including the borrower's age, home equity, and location of the property, and the borrower will not be required to make any repayments until the owner dies or sells the house. A RAM is usually paid in a lump sum which is used to purchase an annuity that will provide monthly payments. Upon the borrower's death, the lender will take possession of the property and sell the home, with proceeds used to repay the loan.

While RAMs have their benefits, there are also disadvantages that should be carefully considered before deciding if this option is best for you.

1. Reverse annuity mortgages can be very costly. RAMs are more costly than other loan options, and these expenses are usually the responsibility of the borrower. Such things as appraisal fees, closing costs, insurance, and service fees are expected up front and borrowers should also be aware of hidden costs such as surrender and maintenance fees or charges for purchasing annuities or investments.

2. There are no fixed or guaranteed payments. In contrast to a traditional reverse mortgage, a RAM is contingent on a fluctuating stock market or investment. Payment amounts may vary depending on stock value, and deferred payments may mean that you have to wait a period of time before collecting any returns. These factors make for a risky investment and may influence the feasibility of a RAM, depending on your age and financial situation.

3. You need to consider the tax implications. Cash received from an annuity or RAM is considered income and treated as an asset making these proceeds, or at least a portion of them, taxable. In contrast, the interest accrued on the principle is not tax deductible until the mortgage is paid. It is also important to realize that the increased income could reduce SSI payment amounts or affect your eligibility for Medicaid or other assistance programs.

4. Reverse annuity mortgages could leave heirs with additional debt. Since no payments are required, the interest compounds and the amount of debt increases, leaving less equity in your home. When a borrower dies, the lender sells the property, and ideally, any extra profit will be given to the estate or any eligible heirs. Unfortunately, the longer a RAM remains unpaid, the more interest builds, potentially leaving heirs with money owing, even after the home is sold, especially in a weak real estate market when property resale values are low.

Before making a decision about reverse annuity mortgages, it is vital to compare the pros and cons and determine if the benefits will justify the cost involved or the resulting loss of equity. If an annuity yields unpredictable or unsatisfactory returns, you may find yourself in an unfavorable situation, having traded the financial security of your home for an inconsistent income. Not only will you risk losing valuable assets, but you may also leave heirs with additional debt should interest build over a long period of time, rates increase, or investment returns not balance costs or cover expenses.

Reverse annuity mortgages are risky and a professional expert should be consulted. It is important that you understand all your options as well as the pitfalls involved.