So you’re considering a reverse mortgage vs a home equity loan? While both options can provide homeowners with cash, there are some key differences between the two to help you choose the right one for you.
Here’s a breakdown of the pros and cons of each option.
What Is a Reverse Mortgage?
A reverse mortgage is a type of a loan permitting homeowners who are 62 years of age (or older) to convert their home equity into cash. There is no obligation to repay the reverse mortgage loan except in the following cases: the borrower dies, sells the home, or moves out of the home permanently.
The most popular form of a reverse mortgage is the home equity conversion loan (HECM).
What Is a Home Equity Loan?
A home equity loan is a loan that uses the borrower’s home equity as collateral. The loan amount is typically based on the home’s value minus any outstanding mortgage debt.
The Main Differences
What are the differences between a home equity loan and a reverse mortgage?
Basically, they have different disbursement and repayment terms, qualifications such as age and equity, credit scores, and monthly payments.
| Reverse Mortgage | Home Equity Loan | |
| Disbursement and repayment terms | monthly installments, lump-sum payments, or a line of credit | lump-sum payment |
| Age requirement | 62+ | none |
| Monthly payments | none | based on the loan amount, interest rate, and term |
| Minimum credit score | none | 620 |
| Interest rate | adjustable | fixed |
| Fees | 0.5% of the loan amount, interest charges, and servicing fees | none |
| Closing Costs | $6,000 in lender fees; 2% of the loan amount for mortgage insurance | 2%–5% of the loan amount |
Not, let’s take a closer look at the main home equity loan vs reverse mortgage differences:
Reverse Mortgage Offers More Payment Options
With a home equity loan, you receive the money in one lump sum and then make monthly payments to repay the loan.
With a reverse mortgage, you can receive your funds in monthly installments, lump-sum payments, a line of credit, or any combination thereof.
When it comes to repayments, reverse mortgages are paid off as soon as the borrower falls behind on property taxes or insurance, maintains his home in poor condition, dies, or leaves.
On the other hand, with home equity loans, you’ll pay back your loan every month, and the term of the loan will come to an end when all payments have been made.
You may pay just the interest on a home equity line of credit in some instances, with the final payment being paid off when the term of the loan expires.
You can measure equity using the home equity loan calculator. For example, if your house is valued at $300,000 and you owe $100,000 on a mortgage, you’ll have $200,000 equity.
No Age Requirement for Home Equity Loans
While there’s no age requirement, you must have at least 20% equity in your house to take out a home equity loan. To qualify for a reverse mortgage, you must be at least 62 years old and have significant equity in your home.
No Monthly Payments with Reverse Mortgage
With a reverse mortgage, you don’t have to make any monthly payments as long as you live in your home. With a home equity loan, you typically have to make monthly payments. Monthly payments will be calculated based on the loan amount, interest rate, and term.
Reverse Mortgage Rate Is Usually Adjustable
The interest rate on a reverse mortgage is usually adjustable, although it can also be fixed.
In contrast, home equity loan rates are typically fixed, which means they will stay the same for the life of the loan.
Home Equity Loans Have No Fees
Fees may apply to reverse mortgages, such as annual mortgage insurance premiums of 0.5% of the loan amount, servicing fees, and interest charges. Home equity loans do not have fees.
Reverse Mortgage Has Higher Closing Costs
Closing costs on a reverse mortgage can be high, sometimes totaling as much as $6,000 in lender fees, 2% of the loan amount for mortgage insurance, and additional fees. So, you might want to opt for reverse mortgage companies with lower fees.
Home equity loans have lower closing costs, 2% to 5% of the loan amount.
Home Equity Loan & Reverse Mortgage Pros and Cons
Now that we’ve looked at the key differences between a home equity loan and a reverse mortgage, let’s take a look at the pros and cons of each.
Home Equity Loan Advantages:
- You’ll receive your money in one lump sum and then make monthly payments to repay the loan.
- The interest rate is typically fixed, which means it won’t change over the life of the loan.
- Closing costs are typically lower than those associated with reverse mortgages.
Home Equity Loan Disadvantages:
- You must have at least 20% equity in your home to qualify.
- You’ll need to make monthly payments to repay the loan.
- Your credit score will impact the interest rate you receive.
Reverse Mortgage Advantages:
- You don’t have to make any monthly payments as long as you live in your home.
- There’s no minimum credit score required to qualify.
- You can access a large amount of money if you have significant equity in your home.
Reverse Mortgage Disadvantages:
- Interest rates are typically adjustable and can go up over time.
- You must be at least 62 years old to qualify.
- Fees and closing costs can be high.
Best Option for You
The home equity loan vs reverse mortgage decision comes down to your needs and goals. So, which option is right for you?
If you need cash and are 62 years or older, a reverse mortgage could be a good option. You won’t have to make any monthly payments, and the loan will not come due as long as you live in your home.
If you have a good credit score and can afford to make monthly payments, a home equity loan could be a better option. The interest rate will be lower, and you’ll build equity in your home as you repay the loan.
Reasons why you should not get a reverse mortgage:
- If you are not 62 years old.
- If you don’t have significant equity in your home.
- If you need the money to pay off debts or medical bills.
- If you are not comfortable with the idea of having a loan that is not repaid until after your death.
Reasons why you should not get a home equity loan:
- If you do not have a steady income.
- If your credit score is below 620.
- If you cannot afford the monthly payments or if you need the money for a short-term goal.
- If you are not comfortable with the idea of putting your home up as collateral for the loan.
Conclusion
A reverse mortgage and home equity loan are both great options to consider when you need money for renovations, debt consolidation, or other expenses.
On the one hand, a reverse mortgage offers more flexibility and freedom than a home equity loan, but it comes with higher fees and interest rates. On the other hand, a home equity loan is cheaper overall but can be less flexible if your needs change down the road.
FAQs
Is a HELOC a reverse mortgage?
Although HELOC is the most popular form of a reverse mortgage, they are not identical. A HELOC is a revolving line of credit, which means that homeowners can borrow against it repeatedly as long as they continue to make payments.
On the other hand, a reverse mortgage is a lump sum payment that is typically used to finance retirement expenses. In addition, HELOCs typically have lower interest rates than reverse mortgages.
As a result, homeowners looking for a loan to cover large expenses may want to consider a HELOC rather than a reverse mortgage.
What does Suze Orman say about reverse mortgages?
In her opinion, reverse mortgages are “the single most devastating financial event that can happen to seniors,” and she advises against them. Orman believes that reverse mortgages should only be used as a last resort after all other options have been exhausted.
She also believes that the fees associated with reverse mortgages are too high and that the loan terms are not favorable to borrowers. Overall, Orman believes that reverse mortgages are “a bad deal” for seniors.
However, she acknowledges that they can be helpful in some situations if used carefully and wisely.
Can you get a home equity loan with a reverse mortgage?
You cannot get a home equity loan with a reverse mortgage. A reverse mortgage is a kind of a loan that allows you to access the equity in your home without having to make monthly payments.
Reverse mortgage vs second mortgage — what makes them different?
The second mortgage does not have any age limitations, as opposed to a reverse mortgage. However, with the second mortgage, you would be taking out another loan in addition to your existing one.
This implies you’ll have to make two monthly payments on two separate loans. Furthermore, second mortgages typically have lower interest rates than reverse mortgages, but they also come with monthly payments.
What percentage of equity can you get on a reverse mortgage?
You can typically borrow up to 50% of the equity in your home with a reverse mortgage. However, the exact amount will depend on factors like your age and the value of your home.
What is the biggest difference between a reverse mortgage and home equity?
The biggest difference between a reverse mortgage and home equity loan is that a reverse mortgage doesn’t have to be repaid until the borrower sells or moves out of the home, while a home equity loan must be repaid on a fixed schedule.
Also, reverse mortgages are only available to homeowners who are 62 or older, while home equity loans are available to anyone who owns a home.
The last reverse mortgage vs home equity loan difference is that reverse mortgages require no minimum credit score. Home equity loans typically require a minimum credit score of 620.
