Many older homeowners typically consider two mortgage products as tools to supplement their retirement, a HECM or a HELOC. A Home Equity Conversion Mortgage (HECM), or reverse mortgage, is a federally insured loan designed to provide seniors with access to their home’s equity either through a lump sum, monthly payments or a line of credit. A Home Equity Line of Credit (HELOC) also enables borrowers to tap into their homes equity through a credit line. While both products allow the borrower to maintain ownership to their home and access a line of credit, there are a number of key distinctions borrowers should be aware of before proceeding with a HECM or HELOC.

Borrower Goals 

Before pursuing either a HECM or a HELOC, borrower’s should first consider what goals they are hoping to achieve by tapping into their home’s equity. Older borrowers looking to retire, remain in their home, and/or satisfy their long term living expenses should consider a HECM reverse mortgage. This is a flexible option for elderly (62+) borrowers which enables them to retire with financial security while remaining the legal owner of their home. HECM reverse mortgages also allow borrowers to continue receiving Social Security or Medicare benefits. 

If a borrower is in need of fast cash for a short-term solution and they are still receiving income, taking out a HELOC may be the best option for them. Unlike a HECM, a HELOC is a second lien on the home with a fixed amount for the borrower to draw from. If the borrower does not have the funds to repay on a relatively short-term basis, a HELOC could end up hurting them more in the long-run. 

Qualifications

HECMs are available to homeowners age 62 and over who are seeking a reverse mortgage on their primary residence. To qualify for a HECM, the borrower does not need a particularly strong credit score. Meanwhile, credit score and income level are both taken into consideration when applying for a HELOC. 

Additionally, HECM applicants are required to meet with a third-party HUD-approved counselor before they are permitted to move forward in the HECM process. By doing so, the borrower begins the process with full disclosure and understanding of the mortgage product they are pursuing. Counseling is not required for HELOC applicants. While this is one extra step HECM applicants must take, it enables them to seek access to their home’s equity with confidence. 

Line of Credit 

The open line of credit that can be made available with a HECM gives the homeowner significantly more borrowing power than a HELOC. While HELOC borrowers pay an annual fee to withdraw limited funds over a fixed period of 5-10 years, HECM borrowers pay no annual fee and can withdraw unlimited funds from the line of credit as long as they continue to meet their program obligations. Additionally, if a HECM borrower is able to keep up with their homeowner responsibilities, their unused line of credit will actually grow overtime at the current expected interest rate with no risk of being revoked or frozen. A HECM line of credit can actually mature to become larger than the actual value of the home as time goes on. Thus, savvy borrowers can confidently pay off their existing, high-interest debt while retaining substantial funds to use in an emergency, leave for their heirs, etc. 

Unfortunately, this is not the case for a HELOC loan. In fact, HELOC lenders are known for suddenly reducing, freezing, or closing the line of credit with little notice to the borrower. This often occurs if the borrower has not been actively withdrawing funds. For this reason, a HELOC is not a suitable long-term safety net. 

Payments 

When it comes to paying off home equity loans, HECM reverse mortgages stand out in comparison to HELOC loans because they do not require any monthly payment. As long as the borrower continues to reside in the home as their primary residence and is up to date with their property taxes, insurance, and other homeowner maintenance fees, they are permitted to defer payment until the loan becomes due (either at the sale of the home or the passing of the last living borrower). However, if the borrower is willing and able to make prepayment on the loan, they will incur no penalties. 

A HELOC holds the borrower to much stricter payment guidelines. For starters, the borrower is required to make monthly interest only payments. Thus, the debt will not be paid down over the life of the loan unless the borrower intentionally makes additional payments. However, with a HELOC a prepayment penalty is typically charged. 

Not to mention, when interest rates increase or borrowing amounts increase, the monthly HELOC payments also increase. However, if this occurs with a HECM, there are still no payment requirements. 

Additionally, HECMs are a safer alternative to HELOCs because they are non-recourse. This means that even if the home is not worth enough to settle the entire balance, the borrower will never have to repay more than the value of the home. As for HELOCs, the borrower will end up owning more than the home is worth if the home values drop. 

Last but not least, at the maturation of a HELOC, the bank recalculates the payment due based on a new amortization schedule. This balance is assumed to be paid over a very short period of time, leaving many borrowers in a rough situation. Moreover, HECM loans protect borrowers against recast. 

Reverse Mortgage HECM Vs. HELOC

Overall, HECM reverse mortgages are typically a safer and more flexible mortgage product for senior borrowers looking to tap into their home’s equity. See the reverse mortgage HECM Vs. HELOC chart below for a side by side comparison of the two mortgage products.