NEW YORK (MainStreet) – Whether money is tight today or is looking tight tomorrow, a reverse mortgage could be a good way to fill a budget gap. But which approach to tapping home equity is best?
There are several kinds of reverse mortgages, as well as options for taking out a home equity loan or selling your home. The wrong choice could be very costly, since upfront and ongoing fees can chew away at your equity.
A reverse mortgage can be a lifesaver for anyone over 62, allowing a homeowner to borrow against the equity in the home. There are no monthly payments, and you can stay in the home as long as you like if you abide by the loan terms, such as not vacating the home for more than a year and keeping up with taxes, association dues and maintenance. The loan, plus accumulated interest, is paid off from the proceeds after the property is sold, and the debt cannot exceed the sale proceeds.
But fees such as special upfront and annual mortgage insurance charges can chew away at your equity. They can be especially damaging if you won’t have the home for very long, maybe because your life expectancy is short or if you intend to move to a nursing home, for example.
An analysis by HSH Associates, the mortgage data provider, ranks five ways to tap home equity, from cheapest to most expensive:
• Single-purpose reverse mortgage. Origination costs are extremely low, but these loans are available only to seniors with very limited incomes. Also, the loan must be used for a single purpose specified when it is issued, such as making repairs. This is not suitable for the homeowner who wants a steady income.
• Home equity loan or line of credit. Like a reverse mortgage, a home equity loan uses the property as collateral. Fees can be quite low, especially for a line of credit, and there are virtually no restrictions on how you can use the loan. But there is a big drawback: You have to make monthly payments, so you must have adequate income or assets to qualify.
• “Saver” type of home equity conversion mortgage. This is a federally-backed reverse mortgage with low upfront fees and no restrictions on how the loan is used. Compared to the “standard” reverse mortgage, the maximum loan amount is smaller, and although the starting fees are low, the ongoing insurance charges are the same as with the standard loan. The saver option is good for homeowners who do not need to pull every possible cent from the property, and it can work better than the standard loan if your needs are short-term.
• The standard Home Equity Conversion Mortgage (HECM). This, too, is federally backed. Upfront fees are higher, but so is the maximum loan amount. A standard reverse mortgage may be best if you plan to stay in the home for a long time, spreading those upfront fees over many years. Ideally, this type of loan should be left as a last resort for funding retirement, as an older applicant can borrow more.
• Jumbo reverse mortgages. With one of these loans, you can borrow more than is permitted with a standard HECM. But these loans are not as tightly regulated and fees can be high.
Of course, another option is to sell the home and use the proceeds to move someplace cheaper. That’s probably best if the home is much larger than needed or has high costs for maintenance, insurance and taxes. Selling does involve expenses like the real estate agent’s commission, but they’re likely to be lower over time than the fees connected to a reverse mortgage or home equity loan. Most importantly, there are no restrictions on how you can use the proceeds from a home sale. Profits of up to $250,000 for individuals, or $500,000 for couples, are tax-free.
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