Home Equity Loans vs. Reverse Mortgages
Comparing two financing options that access valuable home equity.
A home is the most valuable asset most consumers own in a lifetime. Unlike other items you purchase that lose value over time, a home’s value usually increases from the time of purchase. This increased value is called equity. It’s the difference between the fair market property value and the remaining balance on your mortgage. This means as you pay down the mortgage, you gain equity. Loans like home equity loans and reverse mortgages allow you to access this equity to improve your financial outlook.
Taking out an equity loan of any kind is a serious financial decision. If you’re considering a home equity loan or a reverse mortgage, talk to a HUD-approved housing counselor before you apply. Call Consolidated Credit today at 1-800-435-2261 to speak with a counselor for free. You can get professional advice on how new financing will affect your home, mortgage and overall financial outlook.
How do Home Equity Lines of Credit Work?
A home equity line of credit allows you to access the equity you’ve built up in your home. In a normal housing market, the value of a property will increase slowly over time. Even if you don’t live in an up-and-coming market, regular inflation usually means a home is worth more with each passing year. It’s important to note, this is only true in a normal market. In a weak market home values can decrease. When you have a market collapse like the one seen in 2008, property values can drop significantly.
So assuming your home is worth more now than when you purchased it, there is accessible equity in your home. An equity line of credit lets you access this money to improve your financial outlook in the short term. A reverse mortgage also allows you to take advantage of home equity.
How is a Reverse Mortgage Different from a Home Equity Loan?
Reverse mortgages are not exactly the same thing as a standard home equity loan. They are specifically geared to help seniors access equity in their homes. As such, reverse mortgages have a specialized lending process, more targeted qualifications and a different repayment schedule than home equity loans. In some part, these safeguards are put in place to help protect seniors using reverse mortgages.
In order to use a reverse mortgage:
- All homeowners for the property must be age 62 or over.
- All homeowners must apply for and sign the reverse mortgage papers
- At least one homeowner must reside in the property as a primary residence.
- You must complete a reverse mortgage counseling session before getting your loan.
In addition, once you get your reverse mortgage, you don’t pay anything back every month. In fact, no money is due on the loan until the last homeowner on the deed passes away or moves out of the residence.
By contrast, a standard home equity loan is available to anyone, regardless of age. There is no residence restriction and you don’t even need to take a course or undergo any kind of counseling before you take out the loan and get your money. You also start to pay the loan back immediately, just like you do with other lines of credit.
Are Reverse Mortgages as Risky as Home Equity Loans?
In general, most experts recommend that consumers should avoid home equity loans whenever possible because they are too risky – especially if the loan is being used to pay off some other type of debt, such as your credit cards. Effectively, if you take out a home equity loan to pay off excess credit card debt, you are securing unsecured debt using your home as collateral. As much as a credit card company or a collector may threaten that they can take your home to pay your bill, your assets can’t be liquidated for this kind of payoff without a bankruptcy judgment.
On the other hand, if you secure a loan using your home as collateral, then the lender can take your home if you fail to pay the debt back. If you get behind on your payments or face trouble, such as unemployment, you can lose your home. The last thing you want to deal with on top of financial distress is foreclosure.
By contrast, a reverse mortgage doesn’t have monthly payments, so there is nothing for you to fall behind in paying. The equity in your home is effectively used like a savings account that you can borrow from. It’s only after the last living owner passes away or moves out that the money comes due, so at no point will the lender take your home because you failed to pay your loan back. So whereas home equity loans are a risky proposition for almost any consumer to use, a reverse mortgage is a relatively safe option to use for seniors in the right financial circumstances.
The only payments you need to be concerned with when you have a reverse mortgage are any property taxes and your homeowners insurance. You must keep up to date with these payments and maintain your home in good condition. As long as you do this and remain in your home, your reverse mortgage will not come due. With a home equity loan, you also have to pay homeowners insurance and taxes, in addition to the monthly payments you must make on the loan.