HECM-Reverse Mortgages and Home Equity Lines of Credit (HELOCs) are both liens against your home.
When I did reverse mortgages I can’t tell you how many times I spoke to a homeowner who told me that “their home was free and clear.” Then I’d find out that there was a $50,000 HELOC lien on it.
When asked to explain why that wasn’t disclosed the answer was usually, “I thought it was like a credit card and didn’t count against my home’s equity.”
That reduction in equity usually eliminated their ability to qualify for a reverse mortgage.
Your Friends May Have No Idea What They’re Talking About
(Even professionals like lawyers and accountants…)
Here’s an example:
One time a lawyer called me.
He was calling on behalf of a friend in a tight spot. He made it clear that he was not representing this friend as his attorney.
I thought that was strange…
What difference did it make?
I finally beat the truth out of him.
Two years prior he told his friend to do a HELOC instead of a reverse mortgage.
That HELOC had a monthly payment. The payment was manageable at first.
However, most HELOCs have variable interest rates. That means the payment can go up.
The payment had risen in this case and was now gobbling up a large chunk of the friend’s budget.
It was so bad that the friend was now close to losing his home.
The attorney was frantic – the action taken was on his advice so he felt deeply responsible.
There was enough equity left (luckily) that we were able to take out the HELOC with the proceeds from a reverse mortgage and eliminate the payments.
Our homeowner still lives in that home today.
When is a HELOC better than a Reverse Mortgage Line of credit?
In total fairness…
I really don’t like HELOC’s because I think they’re dangerous.
Before I get to that however, let me first give you a list of reasons that one informative website lists for doing a HELOC rather than opting for a reverse mortgage.
Here’s the list:
- For shorter term loans of less than 5 years, HELOCs are more simple with lower associated costs and faster turnaround times. Reverse mortgages have higher closing costs. Costs with a HELOC are low upfront and accumulate over the life of the loan.
- As assurance against unforeseen emergencies. While reverse mortgages can be taken as a line of credit, HELOCs are significantly less expensive to do so.
- If the future is uncertain and the senior has possible large life changes within a few years, HELOCs can offer greater flexibility than a reverse mortgage.
- With mixed age couples; to prevent a reverse mortgage from coming due when one spouse passes away, couples will include both partners as borrowers. This means that both borrowers must be older than 62. Married couples that have large age differences might be in a situation where one spouse is old enough and the other is not. A HELOC may provide a short term solution until the younger of the spouses reaches the age of 62.
- The amount of money a senior can borrow in a reverse mortgage is calculated on many factors including the age of the youngest borrower. For borrowers near the minimum age of 62 or for couples with large age differences, the amount that can be borrowed may be too low due to younger age of one spouse. Therefore HELOCs may provide additional borrowing power to a couple.
- For some tax reasons with a HELOC, monthly interest payments are tax deductible in the year they are paid. With a reverse mortgage interest is not paid until the house is sold or the owner passes away. For some seniors, usually those with higher incomes, it may be better financially to have the loan’s interest payments deducted annually.
Now, let’s look at the other side…
Bad things happen
– Remember the crash of 2008?
… or (well, you get the idea, right?)
If you’re old enough to get a reverse mortgage, you’re old enough to know the economy seems to tank once every 10 years or so.
The truth is, most of the worst losses come from investors who don’t have the staying power (liquid funds) to last through the turnaround.
Now, imagine how things would change if those investors had a reserve line of credit so they wouldn’t have to sell at a loss.
I know what you’re thinking…
Isn’t that what a HELOC is for?
Back in 2008, many banks froze or revoked homeowner’s credit lines. Ironically, that was when they needed them the most.
Now… that wouldn’t happen with a reverse mortgage, because once the line of credit is granted it is guaranteed by the government.
A Reverse Mortgage Line of Credit Has No Payments
Now, considering 2008 again, consider being one of the “lucky ones.”
That means your HELOC stayed in place during the downturn.
It also means that drawing against that credit results in higher monthly payments.
Those payments would be against a house that is likely underwater.
Wouldn’t it be better to have a reverse mortgage line of credit (with no payments?)
If you don’t pay off the HELOC or can no longer afford the monthly payments your home can be foreclosed.
Here’s the truth:
Most people use a line of credit to cover surprises. We also expect to pay it off relatively quickly.
That’s also the reason most people have credit cards.
A funny thing though…
A huge percentage of Americans end up carrying a balance on their credit cards.
If that’s sounds like you, you can probably also expect to be carrying a balance on a home equity line.
Did you know that most HELOC’s have a time limit? After that they become “fully amortizing” loans.
This means your minimum payment can skyrocket overnight.
Sounds pretty dangerous, right?
Most HELOCs have no interest rate cap. That means that if interest rates go up, so does your payment.
Remember, that’s not a risk with a reverse mortgage. Since reverse mortgages do not have any payment requirement, rising rates are not a problem.
Also, since reverse mortgages are regulated by HUD, even the variable programs have strict limits on how often and by how much interest rates can be adjusted.
Your Available line of credit grows each year with a HECM
One last (but huge) advantage of a HECM credit line is that your borrowing power isn’t fixed.
Your available credit rises every year automatically. The amount the credit line goes up by is about the same as the interest rate.
For example… imagine a HECM saver for $131,029. If mortgage rates plus insurance stay at today’s 4.07 percent rate, the limit would rise to $196,710 in ten years.
In fact, the higher rates go, the more you can borrow.
The whole point is that smart planning can help you weather inevitable downturns.
This is why you might consider a reverse mortgage line of credit…
…even if you’re only 62…
…and even if you don’t need the money right now.
In fact, my opinion is that you should especially consider it before you actually need the money.
Remember… interest rates will never be lower than they are right now. The lower the rates… the more you can qualify for with a reverse mortgage.
If interest rates rise… you won’t be able to borrow nearly as much.
A reverse mortgage line of credit is virtually always better than a home equity line of credit.
If you’re over 62 and are considering home equity options, you should strongly consider the HECM line of credit.