Reverse mortgage vs HELOC

The first difference in a reverse mortgage vs HELOC comparison is payments. A HELOC requires a monthly payment beginning right away. A HECM reverse mortgage requires no payment during the time you remain in the home. The FTC's comparison identifies a second difference. For a home equity loan or HELOC, at least 20% equity is usually needed. A reverse mortgage requires owning the home outright or having a small mortgage.

All three options use your home to secure the loan. They differ in who makes payments and when, how the money works and what remains for your family.

Side by side

• Home value set at $450,000
• Loan balance increases by 7.23% each year

Payments and qualifying

Income covering the monthly payment is what a HELOC lender wants to see. A drop in income when you retire can mean you cannot qualify. A home equity loan uses the same approach but has a fixed payment.

A HECM has no loan payment, so it does not need income for one. The lender checks through its financial assessment that you can keep paying for upkeep, insurance and property taxes. If those expenses look difficult to cover, part of the loan can be reserved for paying them. The requirements guide provides those details.

How the credit line behaves

Here, the two credit lines begin to differ.

The limit on a HELOC stays fixed. Once the draw period ends, borrowing stops and you start repaying what you owe. During a downturn, a lender is able to freeze or cut a HELOC.

A HECM provides a credit line that grows. Each month, the unused portion grows at the loan rate plus 0.5% a year. With default settings, a 70-year-old who owns a $450,000 home starts with a $155,200 line. If no money is drawn, it reaches $222,545 after 5 years, then $319,113 after 10 years. The line of credit guide details the growth year by year.

The chart also shows that a drawn HECM balance increases and eventually approaches the value of the home.

The cost to open

Opening a HELOC usually costs less. With a HECM, upfront FHA mortgage insurance is 2%, while the origination fee can be up to $6,000; third-party closing costs also apply. The calculator starts with total costs of $18,500 for a $450,000 home.

A HECM offsets those costs only when you keep it for years or need its no-payment feature. When you have a small, short-term need and steady income, a HELOC usually costs less. All fee rules are listed in the costs guide.

What heirs owe

If you use a HELOC or home equity loan, your estate owes the full loan balance. Heirs may need other money to clear the debt before selling when the home's value is below the debt.

With a HECM, heirs can never owe more than what the home is worth. Keeping the home means paying the smaller of the loan balance and 95% of its appraised value. FHA insurance takes care of the rest. The heirs guide lists the deadlines.

Reverse mortgage vs refinance

A cash-out refinance pays off your mortgage with a larger loan and gives you the remaining cash. Like a home equity loan, it requires income to qualify and has a monthly payment. A rate-and-term refinance may reduce your payment, but it does not provide cash.

Your mortgage can also be paid off with a HECM. You make no monthly loan payment, but the balance grows. When your income easily covers the payment, a regular refinance leaves you with more equity. A HECM removes the payment when that payment is the problem.

Which fits when

• For an owner 62 or older, a HECM fits if they plan to stay, want no loan payment or want a growing reserve.
• If your income covers the payments, a HELOC fits a short, flexible need.
• If you want to repay a one-time cost on a fixed schedule, a home equity loan fits.

Questions people ask

1. Is a HELOC or a reverse mortgage the better choice?

   If you can make the payments, a HELOC costs less to open and works for a short need. For owners aged 62 and up who will stay for years, a reverse mortgage suits those needing no loan payment or a growing credit line.

2. Between the two, which is better: an equity loan or a reverse mortgage?

   An equity loan provides one lump sum with fixed payments. Repaying it leaves more equity. No payments are needed for a reverse mortgage, but it uses up equity over time.

3. Can you use a reverse mortgage and still get a home equity loan?

   This is rare. Few lenders will lend behind it because a HECM must hold first lien on the home.

4. Which works better, a reverse mortgage or a refinance?

   A refinance works better when you can handle the monthly payment and want to retain equity. A reverse mortgage is the better choice when the payment itself is the problem.

5. What does the 95% rule mean for reverse mortgages?

   When a HECM comes due, heirs may keep the home by paying the smaller of the balance and 95% of the appraised value. No such limit applies to a HELOC.