For decades, reverse mortgages have served as a valuable tool for seniors as they transition out of the workforce, as these loans can help retirees supplement pensions, Social Security benefits, and other post-retirement income sources. While the terms “reverse mortgages” and “home equity conversion mortgages or HECMs” are typically used interchangeably, they are not the same. If you are considering taking out a reverse mortgage loan, it is vital to know the difference between a HECM and other reverse mortgages so you can choose the right loan when tapping into your home's equity.
Reverse mortgages — specifically, home equity conversion mortgages (HECMs) — have become more appealing than ever for the 62 and older crowd. Individuals in this demographic tend to have a lot of equity in their homes and also have the desire to supplement their fixed monthly incomes. This guide compares reverse mortgages with HECMs, discusses how these products work, and describes the repayment process.
What Is a Reverse Mortgage?
Reverse mortgages allow homeowners to tap into the equity in their homes to receive funds from a lender. The lender will typically disburse these funds in a single lump-sum payment. The balance on the loan will continuously rise as it accrues interest, but homeowners are not required to make monthly mortgage payments.
Traditional mortgages and reverse mortgages are similar in a few key ways. In both instances, the homeowner uses their residence as collateral to secure funds. The title will also remain in the homeowner’s name whether they have a traditional or reverse mortgage.
But this is where the similarities end. Reverse mortgages are a unique class of home loan products.
There are three types of reverse mortgages:
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HECMs or Home Equity Conversion Mortgages
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Proprietary reverse mortgages
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Single-purpose reverse mortgages
Single-purpose reverse mortgages are quite uncommon. This is because recipients can only use the funds for one purpose, such as performing home maintenance or paying property taxes. The lender has to approve the intended purpose, and the homeowner must provide proof that the funds were used for said purpose.
Proprietary reverse mortgages are a form of private loan. They are insured and provided by private financial institutions, and the federal government does not back them. Proprietary reverse mortgages have two key perks: The funds can be used for virtually anything, and the homeowner can be as young as 55 years old depending on their state.
How Does a Reverse Mortgage Work?
To be eligible for a reverse mortgage, you must either own your home outright or have a low remaining balance on your existing mortgage. Funds from the reverse mortgage payout must be used to pay off any remaining balance when you close on your loan.
When applying for a reverse mortgage, you can choose between a lump sum payout or line of credit.
A lump sum payout has the highest overall cost because you will pay interest on the full loan amount as soon as you close. Conversely, your loan balance will grow slowly if you opt for other payout options that might be available in your location.
What Is a Home Equity Conversion Mortgage (HECM)?
A home equity conversion mortgage is a specific type of reverse mortgage. It is unique because it is insured by the Federal Housing Administration (FHA). This offers certain protections for borrowers and their heirs. To access this federally insured loan product, borrowers must be 62 or older.
As with other reverse mortgages, HECM funds must be used to pay off the remaining loan balance if the homeowner does not own the residence outright. From there, the funds will be disbursed to the homeowner.
HECM borrowers do not have to make monthly mortgage payments. However, their loan balance may continue to rise until they no longer own the home. The amount of funds that a borrower can receive depends on three factors:
- The age of the youngest borrower
- Expected interest rate
- Value up to FHA’s national lending limit of $970,800
How Does a HECM Work?
HECMs are designed to supplement the income of those preparing for or already in retirement. While HECM borrowers are not required to make mortgage payments, they must continue to pay homeowners insurance and property taxes. They are also obligated to maintain their residence so that it retains its value.
Some borrowers choose to make payments, although they are not required to do so. These payments might reduce the amount of interest or the overall loan balance.
Generally, HECM loans must be repaid in full when the homeowner does one of the following:
- Passes away
- Sells the residence
- Moves out of the home
The borrower's heirs are not obligated to repay the loan. Instead, they can choose to surrender the property to the lender.
What are the Differences Between Home Equity Conversion Mortgages and Reverse Mortgages?
The key differences between a HECM and Reverse Mortgages are:
- Reverse mortgages are available to consumers who are 55 and older in most states, while HECMs are only available if you are 62 or older.
- HECMs have more flexibility in their payout options while reverse mortgages only offer a single-lump sum in most cases.
- HECMs have more stringent eligibility requirements than some other reverse mortgages.
Eligibility Requirements for HECMs
Some eligibility requirements for HECMs include:
- Be 62 or older
- Use the home as their primary dwelling
- Own their home outright or have significant equity
- Be able to pay property taxes and homeowners insurance
For those who meet these requirements, HECMs are the safest type of reverse mortgage and the most practical way to supplement retirement income.
How Do You Repay a Reverse Mortgage?
You have several options when it comes to repaying your reverse mortgage. If you remain in the home for the rest of your life, the borrower or their estate will be tasked with settling the loan balance. They can do so in one of three ways:
- Purchase the home for the outstanding loan amount
- Sell the home and keep any remaining proceeds
- Sign over the deed to the lender
Whether you are researching home equity conversion mortgages for yourself or a loved one, these financial products are one of the best ways to supplement income in retirement. HECM loans protect borrowers and their heirs while providing retirees with the funds they need to enjoy their golden years.
If you would like to learn more about reverse mortgages or HECMs, reach out to your local specialist at CrossCountry Mortgage or find a loan officer.