Differences Between Home Equity Loans & Reverse Mortgages

It's no secret that life is full of unexpected expenses, large purchases, and other pressing financial demands. For help meeting these needs, homeowners can make their home equity work for them, with financial solutions like reverse mortgages and home equity loans. But which home equity sharing option is better for you? Compare reverse mortgages vs home equity loans so you can make the best decision for your financial circumstances.

• What Is a Reverse Mortgage?
• What Is a Home Equity Loan?
• Key Differences Between Reverse Mortgage vs Home Equity Loan
• Which Home Financing Option Is Right for You?
• An Alternative to Reverse Mortgages & Home Equity Loans

What is a Reverse Mortgage?

Reverse mortgage loans are tax-free home loans for homeowners over the age of 62 that convert a portion of home equity into accessible cash. Unlike a traditional mortgage where borrowers make regular payments to the lender, a reverse mortgage requires lenders to make payments to the borrower.

In order to qualify for a reverse mortgage, you must own your home or have a substantial amount of equity in it. Your home must be your primary residence (not an investment property or vacation home), and you should be in a position to continue paying home maintenance costs.

While these are general reverse mortgage requirements, terms and conditions may differ if you have a proprietary reverse mortgage offered by private lenders or a home equity conversion mortgage (HECM).

Pros of Reverse Mortgages

There are several pros and cons to reverse mortgages, including:

• Financial Security: The payment(s) you receive from your lender can provide additional security or a supplement to your fixed income. Multiple Payment Options: You can receive your reverse mortgage payments through monthly payments, a line of credit, a lump sum, or a combination of these options.
• Not Taxable: The funds you receive from your reverse mortgage are not considered income, and therefore you will not have to pay taxes on them.
• Ability to Remain in Your Home: You can access the equity you've built while continuing to live in your home and maintaining ownership.
• Protection Against Housing Market Fluctuations: Because a reverse mortgage is considered a non-recourse loan, you will not be liable for any more than the home's appraised value when the loan is due.

Cons of Reverse Mortgages

• Additional Costs: Obtaining a reverse mortgage has a price tag. Reverse mortgage costs include origination fees, closing costs, attorney services, monthly servicing fees, and more.
• Interest Accumulation: Reverse mortgage interest rates increase your loan balance over time, meaning the equity in your home may decrease in value as the loan grows and negatively impact your heirs.
• Impact on Government Benefits: You may no longer be eligible for government benefits, such as supplemental security income (SSI) and Medicaid, if you receive a reverse mortgage.
• Risk of Foreclosure: Should you fall behind on paying property taxes, maintenance fees, or other costs associated with your home, you could be at risk of losing your home.
• Complexity: Reverse mortgages can be complicated, long-term commitments that involve a variety of terms and conditions. While borrowers are required to undergo counseling to enhance their understanding, there may still be challenges when navigating the loan.

What is a Home Equity Loan?

Home equity loans, often referred to as a second mortgage, are a financial tool that allows homeowners to borrow money using the equity that they have built in their home. As part of the home equity loan process, payments are made in a lump sum, allowing you to more immediately take care of important expenses.

Home equity repayment period terms may vary by lender, but borrowers are generally required to make monthly payments within a specified loan term ranging between five to 30 years. Also, second mortgage rates are often higher than the rates on your primary mortgage.

Generally, to meet home equity loan requirements, you must have at least 15% to 20% equity in your home, a strong credit score, and a stable income.

Pros of Home Equity Loans

• Lump Sum Payment: Ideal for large expenses like home renovations or education costs, home equity loans allow you to receive a one-time lump sum to put towards your financial goals.
• No Age Requirement: Most lenders do not have a minimum age requirement for home equity loan eligibility (beyond being a legal adult).
• Fixed Rates: Throughout the life of the loan, you can expect a fixed interest rate and consistent monthly payments—regardless of fluctuations in the market.
• Lower Interest Rates: In comparison to other types of loans, home equity loan interest rates are typically lower and may even be tax-deductible.
• Flexible Repayment Period: With the option to extend your repayment period for up to 30 years, your monthly payments are more budget-friendly.

Cons of Home Equity Loans

• Closing Costs: Home equity loans typically involve steep upfront costs, including appraisal fees, origination fees, and more.
• Limited Funds: Depending on the amount of equity you have in your home and other appraisal factors, the amount of funds that you have access to may be limited.
• Reduced/Negative Equity: You give up a portion of your home equity when you take out a home equity loan. And if there is a measurable drop in the real estate market, the value of your home may diminish and possibly leave you with a loan balance exceeding the value of your property.
• Risk of Foreclosure: Because your home is collateral for the loan, if you fail to keep up with payments, you could lose your home in a foreclosure.
• Impact on Financial Goals: If you use the proceeds from a home equity loan to pay for a major expense, such as home repairs or medical bills, this could impact your ability to save for future financial goals, such as retirement.

Key Differences Between Reverse Mortgages vs Home Equity Loans

Reverse mortgages are geared toward older homeowners hoping to tap into home equity without making monthly payments, whereas home equity loans are lump sum payments for homeowners of any age and require regular repayments.

When weighing the options of a reverse mortgage vs a home equity loan, it's important to factor in which option will best fit your situation. Consider the main differences between reverse mortgages and home equity loans—requirements, disbursement, and repayment terms—below.

Requirements

• Reverse Mortgage: You must be 62 years of age or older, own your home or have a significant amount of equity in it, and be able to make property-related payments on time and in full.
• Home Equity Loan: You must be a legal adult, have at least 15% to 20% equity in your home, and show proof of steady income and a good credit score.

Disbursement

• Reverse Mortgage: You will receive monthly payments, a lump sum, or a line of credit (or a combination of the options).
• Home Equity Loan: You will be given a single lump-sum payment.

Repayment

• Reverse Mortgage: You will not have a fixed repayment schedule or be required to make monthly payments during the life of the loan. When the loan becomes due, you or your heirs can pay off the balance in full (typically by selling the home) or refinance your loan.
• Home Equity Loan: You will make monthly payments over a set timeline (ranging from five to 30 years) with a fixed interest rate.
  
  

Which Home Financing Option Is Right for You?

Comparing home loan options and choosing the best option for your situation can be a difficult task. The best way to determine whether or not a reverse mortgage or a home equity loan is best for you is to examine the requirements and the advantages and disadvantages of each option.

First, think about your priorities. For example, if finding cheaper mortgage rates is important to you, a home equity loan may not be your ideal option because interest rates increase over time. Or, if you're looking for fast home loan approval, think twice about a reverse mortgage because the application process typically takes longer.

When Reverse Mortgages Might Be Better

A reverse mortgage may be the best option for you if you are planning to stay in your home for five or more years, have significant equity in your home, are at least 62 years of age, and can afford to pay home maintenance costs, insurance, and property taxes.

When Home Equity Loans Might Be Better

A home equity loan, or a second mortgage, is ideal for homeowners who are looking for a more immediate financial solution with lower interest rates to cover home renovations or other costly expenses.

An Alternative to Reverse Mortgages & Home Equity Loans

Unison offers alternatives to reverse mortgages and home equity loans that help homeowners access home equity without adding debt, interest, or monthly payments.

With an equity sharing agreement, Unison can convert up to 15% of your home's value to cash, and unlike a typical reverse mortgage loan or home equity loan, there is no added financial stress. Our shared equity agreement allows you to trade a portion of your home equity for cash to support your retirement, pay off debts, and help with other expenses.

As part of the home equity agreement, you maintain complete ownership of your home. Should your home increase in value, Unison will share in the profits, but if your home decreases in value, we'll typically share in the loss. During the 30-year term, you can either buy Unison out or settle the home equity sharing agreement when you sell your home.

Find out how much home equity you can access with a free estimate today.





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