What Happens to a Reverse Mortgage?
The right of eminent domain is used by a government entity when a home or other property is seized to make way for a public project like a new road, bridge, or school.
The takings clause of the Fifth Amendment to the US Constitution requires that the owner must be justly compensated for the loss. Courts have held that to mean that the property owner must be paid the fair market value of the property.
In a typical mortgage, the amount may be enough to pay for a new home, because the homeowner’s equity increases as they make mortgage payments. However, the situation might be somewhat different if the homeowner has taken out a reverse mortgage.
- Eminent domain cases on reverse-mortgaged properties are rare, but they can happen and can cause complications for borrowers.
- Unlike in traditional forward mortgages, a homeowner’s equity decreases in reverse mortgages, potentially leaving little more than what is needed to repay the loan and not enough for a new home, even if fair market value is received for the condemned property.
- The proportion of the home’s value is borrowed against and whether values are appreciating in a particular home market are two critical factors.
How Eminent Domain Works
Eminent domain is the power of a government, whether federal, state or municipal, to take private property for public use, following the payment of just compensation. This practice occurs in many different countries under different names. It may not seem fair to the owners of the property, and eminent domain cases, especially when the owners feel that they have not been justly compensated, are fairly common.
Eminent Domain and the Reverse Mortgage
The compensation payment, when combined with the equity in the home, may be enough to pay for a new home or at least provide for a downpayment on a new mortgage. But if the homeowner has a reverse mortgage, the homeowner may not have enough remaining equity in the home to pay off the loan and buy a new residence using the compensation payment.
Their chances may be more favorable if the homeowner has significant equity in the property. The home may have increased in value since the reverse mortgage was obtained, or the homeowner may have maintained significant equity in the home by borrowing only a limited amount.
The worst-case scenario occurs when the homeowner has taken a substantial amount of the property value in reverse-mortgage payments and has not had enough time (or enough luck) to enjoy a substantial increase in the property’s value. In such cases, the government payment may fall well short of the cost of replacement.
Homeowners may face added costs, such as for appraisals and relocation, which are not necessarily covered in all eminent domain cases.
The problem arises when the amount borrowed leaves the homeowner with little equity in the property and thus little actual cash from the settlement with the condemning authority.
In a case in 2012, an Oregon homeowner was offered just enough money to repay her reverse mortgage when the state’s Department of Transportation needed her home for a road project. The state agency eventually agreed to let the woman, then in her mid-80s, live in a home the agency owned rent-free for as long as she needed it.
In a time of rapid home appreciation, such situations are less likely. A home’s value is likely to exceed the amount borrowed years before, notes David Henson, managing partner of Henson and Fuerst of Raleigh, North Carolina, a specialist in eminent domain and related property law.
However, downward swings do happen in housing markets. While the law varies among states, condemning authorities and the courts are not likely to consider the homeowner’s debt.
Property Value Vs. Debt
“The relevant factor truly is what’s the value of the property before they take it, what’s the value of the property, and what are the damages that result,” Henson says. “The debt is immaterial as to how the damages are either negotiated or tried if it goes in front of a jury.”
Many homeowners in such a situation face added costs, such as appraisal fees and relocation expenses, which are not necessarily covered in eminent domain cases.
As in traditional forward mortgages, the language of the relevant loan agreement is crucial. It should spell out what happens in case of a condemnation of the property. It should also state that the proceeds are to go to the homeowner, although the lender will have to approve the ultimate arrangement.
How Does Eminent Domain Work?
Eminent domain is the right of a local, state, or federal government to acquire property deemed needed for the public good. The Fifth Amendment to the United States Constitution requires that owners of such property be justly compensated. That generally is held to mean that the property owners will be paid fair market value.
How Does an Eminent Domain Proceeding Affect a Reverse Mortgage?
The impact is largely the same as on a traditional, or forward, mortgage. That is, the government pays the property owner, who will then have to pay any outstanding balance on the home loan.
In the best-case scenario, an owner who has significant equity in the property can replace it, using the government’s payment.
In a reverse mortgage, the owner’s equity has been reduced by the amount borrowed plus interest and other repayment costs. In such cases, the equity and the government payout combined may not be enough to buy a replacement home.
How Can I Protect My Property From Eminent Domain?
There is not much anyone can do to protect your property from eminent domain. It is not possible to anticipate the future needs of the public or the government. It may seem unfair, but property owners do not have many options to protect their property from seizure by the government.
The Bottom Line
An eminent domain condemnation can severely complicate the financial and housing situation of homeowners using a reverse mortgage, particularly if a large proportion of the home’s equity has been withdrawn.