Reverse Mortgage (HECM) vs. HELOC: What’s the Difference?

Being a homeowner has many advantages, and one of the greatest is the ability to build equity. Once you have a substantial amount of equity, you may be able to tap into it and access cash — often at a much lower interest rate than your typical loan.

Two of the most common ways to access your equity are a home equity conversion mortgage (or HECM) and a home equity line of credit (HELOC). Take a closer look at each one so you can decide which is best for you.

HECM (or Reverse Mortgage)

A reverse mortgage is exactly what it sounds like. In a traditional (or “forward”) mortgage, you make monthly mortgage payments to your lender. With a reverse mortgage, the lender pays you in return for a stake in your home.

This might sound like free money. However, while you don’t make payments toward a reverse mortgage over the life of the loan, the full amount becomes due when you die, sell the home, or move out. In most cases, a borrower’s heirs will sell the home and use it to pay off the loan after the borrower has died.

With a reverse mortgage, you have some flexibility in how you receive your funds. You can usually choose between a lump sum, regular (usually monthly) installments, and a line of credit. Many homeowners choose to receive monthly payments to have a reliable source of income each month.

These are some of the main advantages of a reverse mortgage:

• You don’t have to pay income tax on the money you receive
• It’s usually easier to qualify than it is for other kinds of credit
• You don’t have to pay toward the loan during your lifetime
• It allows you to remain in your current home

However, reverse mortgages also have their downsides:

• Reverse mortgages with high interest rates can snowball over time
• The interest on the loan usually isn’t tax-deductible
• It may create a hassle for your heirs
• If you end up having to move into a nursing home, the loan becomes due

Before you start weighing the advantages and disadvantages of a HECM vs. a HELOC, you should check to see whether you’re eligible for a HECM. You must be at least 62, and only certain types of properties are eligible.

HELOC

You might already be familiar with home equity loans. HELOCs are similar, but instead of receiving your funds all at once, you’re given a line of credit that you use only if you need it.

However, HELOCs work a little differently from most credit accounts. When you get a HELOC, it’s divided into two periods: a draw period and a repayment period.

The draw period (usually about 5 to 10 years) is when you may withdraw funds as needed, and you only make payments on the interest accumulated. The repayment period is usually 10 to 20 years, and you’ll need to pay both interest and principal.

Here’s a look at some of the benefits of a HELOC:

• Because you only draw what you need, you can minimize the interest you pay
• Interest rates are lower than those of many other credit products
• The draw period allows you to make smaller payments
• You don’t have to meet age requirements to qualify

HELOCs also come with a few cons:

• Most have a variable rate, so payments can increase over time
• You must meet more stringent credit requirements to qualify
• If you’re unable to pay, you risk losing your home

You should also keep in mind that when the repayment period begins and your payments include interest and principal, you may owe significantly more per month.

Making the Decision

HECMs and HELOCs aren’t your only two options for accessing your home’s equity in retirement, but they’re two of the most popular. When determining which is the better option for you, make sure to take the following factors into account:

• Your age
• Your credit score and history
• How much equity you have
• Whether you want to stay in your home
• What you intend to use the loan proceeds for
• Your heirs and their ability to handle a home sale

It’s also not a bad idea to speak to a financial professional. They can help you assess your situation and determine which option may be the right one.

Thinking About a HECM or HELOC?

At South River Mortgage, we understand how stressful planning for retirement can be — and financial stress is often the greatest of all. We’ve helped countless people build the retirements they deserve, and we may be able to help you, too. If you want to learn more about your options, get in touch today.