Home equity loan or HELOC versus reverse mortgage: how to choose

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If you’re a homeowner and you’re 62 or older, you may be weighing your options to gain access to home equity. A reverse mortgage, home loan, or home equity line of credit (HELOC) can provide you with the money you need to cover living expenses, home improvements and repairs, medical bills, or just about any other purpose.

A reverse mortgage does not require you to make loan payments while you are alive; HELOCs and secured real estate loans. But loan repayment is just one of several factors to consider if you are considering these mortgage products.

Learn how each option works to determine which one best suits your needs:

How Real Estate Loans and HELOCs Work

Mortgages and HELOCs are second mortgage… With any loan, you can borrow money depending on how much capital at your home. You will be refunded in monthly installments.

Since these loans are secured by your home, they have relatively low interest rates. However, the second mortgage is considered to be more risky for lenders than the first mortgage.

As a result, you can expect HELOC and home equity rates to be one or two percentage points higher than current mortgage rates.

What you need to qualify: IN requirements for obtaining a mortgage loan or HELOC include a credit rating in the region of 600 and above and a debt-to-income ratio of no more than 43%.

You will also need a significant chunk of home equity – most lenders will want you to have at least 15% of the equity in your home.

Understanding Real Estate Loans

Loans secured by real estate allow you to borrow against the value of your home and receive a lump sum payment at a fixed interest rate. You can get your money back for up to 30 years.

You will need to start paying both principal and interest within about a month after receiving the loan funds.

Understanding HELOC

HELOCs allow you to borrow any amount within the established credit limit. Instead of borrowing money right away, you can borrow smaller amounts as needed. In this respect, HELOCs are like credit cards.

However, unlike a credit card, which allows you to borrow and repay money indefinitely, HELOC limits borrowing to a specific borrowing period – usually five to 10 years.

Many lenders do not require borrowers to repay the principal during the loan period; instead, they only ask you to pay interest on what you borrowed.

Clue: Most HELOCs have variable interest rates, but you can find a lender who offers a fixed rate option that will help you manage your payments more easily and potentially save you money in interest.

How a reverse mortgage works

BUT reverse mortgage gives you money that you can spend however you want. If you still owe money on your first mortgage, you will have to use the reverse mortgage proceeds to pay it off, and the remaining amount will be yours.

However, this is not a second mortgage and it does not require monthly payments.

The amount you can borrow will be higher depending on:

  • How old are you
  • How much is your house
  • How low are the current interest rates?

The balance on a reverse mortgage grows over time, but is not payable until you die or move out of your home permanently. Usually the lender is paid money for the sale of the house. Alternatively, the owner’s heirs can repay the loan and keep the house for themselves.

The most common reverse mortgage – Home Equity Conversion Mortgage (HECM) – offers payment options in one of three ways:

  1. Credit line: As with HELOC, you deal with the required amount and only pay interest and commissions on what you borrow. Any loan that you do not use on your line of credit will continue to grow (up to the maximum amount of your mortgage).
  2. Fixed monthly payments: You will have two options for receiving fixed monthly payments. Homeownership fees provide payments for the entire time you live in your home. “Urgent” payments provide for payments for a certain number of years.
  3. Total amount: You will receive all funds at the same time and will pay interest and commissions on the entire loan amount.

Requirements for obtaining a reverse mortgage

You must meet these requirements to be eligible for a HECM Reverse Mortgage:

  • Be at least 62 years old
  • Own and reside in an eligible type of property, such as a single family home, as your primary residence.
  • Be able to pay recurring property costs, including homeowner’s insurance, property taxes, and maintenance.
  • Own a home without a mortgage or have at least 50% of your home equity
  • Take HUD Approved Reverse Mortgage Consultation
  • Have no overdue federal debt (such as taxes or student loans)

Pros and cons of home loans and HELOCs

Main advantages mortgages and HELOCs their relatively low interest rates and the ability to borrow a lot of money, while the main disadvantage is that these loans are secured by your home, potentially increasing your foreclosure risk.

Pros and cons of a home loan

pros Minuses
Low fixed interest rate Protected by your home
Fixed monthly payments Must have a good reputation
Long maturity Interest builds up over time
Low closing costs Must have sufficient income to qualify

Pros and cons of HELOC

pros Minuses
Borrow as needed for up to 10 years Variable interest rate
Fixed monthly payments Failure to pay principal during the draw period may increase borrowing costs.
Long maturity Must have a good reputation
Low closing costs Must have sufficient income to qualify

Pros and cons of reverse mortgages

A reverse mortgage allows seniors to access the value of their home even if they cannot afford monthly payments or qualify for other types of loans, but it comes with significant costs.

pros Minuses
Credit rating is not an approval factor High closing costs
Income is not a factor of approval It’s harder to leave the house to heirs
No payment is required if the house is your primary residence. Mortgage insurance premiums and monthly maintenance fees
You will never owe more than your house is worth Variable interest rate on most payment options

Which option is right for you?

If you can satisfy the creditor’s claims for income and loans, reverse mortgage alternatives for example, a home equity loan or HELOC is likely to be the best options. These loans have much lower upfront costs and are easier to understand than reverse mortgages.

Home Loan Infographic or HELOC vs Reverse Mortgage Loan

Loan secured by equity capital HELOC Reverse mortgage
Min. borrower’s age 18 in most states 18 in most states 62
Access to the fund total amount As needed Lump-sum payment as needed or monthly
Interest level Fixed Usually variable, but can be fixed Usually variable, but can be fixed
Mandatory monthly payments Principal and interest Interest only during the drawing period; principal and interest at maturity Nobody
Min. credit rating Mid 600s Mid 600s Nobody
Equity required More than 20% More than 20% More than 50%

When to consider a home equity loan

  • You can meet loan and income requirements
  • You need predictable monthly payments
  • You need a lump sum for a specific purpose
  • Do you want to leave your home to your heirs

When to consider HELOC

  • You can meet loan and income requirements
  • You want the flexibility to decide when to borrow and how much
  • You only want to pay interest payments for the first few years of the loan.
  • You are comfortable with a variable interest rate
  • Do you want to leave your home to your heirs

When to consider a reverse mortgage

  • Your equity is your biggest asset
  • Do you want to age on the spot
  • You have bad credit
  • You don’t want to make monthly payments
  • You are an elderly pensioner
  • You agree that the lender will sell your home to pay off the loan as soon as you move in or pass away

Clue: Even if you are retired, you can still qualify for a second mortgage based on your retirement income from sources such as social security, annuities, retirement or your retirement accounts.

Another option to consider is cash refinancing.

Older homeowners may be interested in cashing refinancing as an alternative means of using equity capital.

When you refinance with cash out, you take out a new first mortgage that is larger than the balance of your existing mortgage. The proceeds from your new loan will cover your existing mortgage and your closing costs. You can then keep the rest of the money for yourself to use as you see fit.

Refinancing with cash payments can be a good option when prevailing mortgage rates are lower than the rate you are currently paying, you have good credit, and can provide new monthly mortgage payments.

Credible can help you start withdrawing funds refinancing… Checking refinancing rates on our platform is easy, it only takes a few minutes and will not affect your credit rating.

Get the money you need and the rate you deserve

  • Compare lenders
  • Get cash to pay off high interest rate debt
  • Pre-qualify in just 3 minutes

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about the author

Amy Fontinel

Amy Fontinel is a mortgage and credit card agency and sponsor of Credible. Her work has been featured in Forbes Advisor, The Motley Fool, Investopedia, International Business Times, MassMutual and others.

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