HECM versus a HELOC – Which Product Makes Sense for You?

Are you looking for a product that offers a line of credit?  You may want to consider a HECM reverse mortgage or a HELOC.  While these two products share many similarities, there are also some key differences to be aware of.  However, before we delve into the details, let’s start with a brief definition.

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HECM Defined

A Home Equity Conversion Mortgage (HECM), commonly known as a reverse mortgage, is a Federal Housing Administration insured loan.  A HECM enables seniors age 62 and older to access a portion of their home’s equity to obtain tax free1 funds without having to make monthly mortgage payments.2  You can receive the loan proceeds in a lump sum, monthly payments or as a line of credit.  With a HECM, any existing mortgage balance is paid off using the proceeds from the reverse mortgage loan.

HELOC Defined

A Home Equity Line of Credit, or HELOC, is a loan that is set up as a line of credit for a maximum draw amount and for an established period of time, or term.  The draw period usually lasts 5 to 10 years, during which time the borrower is only required to pay interest on money withdrawn.  At the end of the draw period, the repayment period begins and is usually about 10 to 20 years.  During the repayment period, the borrower must pay both principal and interest to pay off the entire loan balance, either through installments or a single payment.  A HELOC can be a first or second mortgage.

Key Product Features

Now that we have a better understanding of what these two products are, let’s take a closer look at how they work.

While HECMs are available in fixed and adjustable rates, the line of credit option is only available through an adjustable rate loan and the lump sum option in only available with a fixed rate loan.  HELOC’s are typically adjustable, but some lenders offer a hybrid alternative.3  The interest rates for a HECM versus a HELOC are fairly comparable.

Upfront costs for a HECM reverse mortgage are significantly higher than they are for a HELOC. Unlike a HELOC, however, there are no draw or utilization fees with a HECM.  In addition, HECMs do not have a set draw period or a limit on the number of draws after the first 12 month disbursement period.  A HECM gives borrowers the flexibility to use the line of credit any time and in any amount, until the line of credit is exhausted.

HECMs offer a feature that is unique to this product – the line of credit growth rate.  This means that the unused portion of the line of credit grows regardless of the home’s value.4  In contrast, the amount of the initial line of credit does not typically change with a HELOC.  In addition, with a HELOC the lender can reduce or cancel the line of credit under certain circumstances.

With a HECM, the borrower doesn’t have to make any monthly mortgage payments.2  Typically the loan does not come due until the borrower moves, sells the home or passes away.  Whereas borrowers with a HELOC must pay back any funds borrowed, plus interest, within the repayment period.

Choosing the product that’s right for you really depends on your particular situation and your retirement goals.  For example, are you planning to pay off the loan balance in the near future?  Do you intend to live in your current home long term?  What features are important to you?  These are just a few of the questions that should be considered.  It’s also a good idea to discuss your options with a trusted financial advisor.

If you’d like to learn more about reverse mortgages or want to see if you’re eligible, call 800-218-1415.

 

 

1 Consult your financial advisor and appropriate government agencies for any effect on taxes or government benefits.

2 You must live in the home as your primary residence, continue to pay required property taxes, homeowners insurance and maintain the home according to Federal Housing Administration requirements.

3 Bankrate.com, “Banks Offer HELOC with Fixed-Rate Option”, by Poonkulali Thangavelu, 7/18/14, http://www.bankrate.com/finance/home-equity/heloc-with-fixed-rate-option.aspx

4 The reverse mortgage loan balance grows at the same rate as the available line of credit.  Line of credit growth occurs and is only a benefit when a portion of the line of credit is not used.  The unused line of credit grows over time and more funds become available during the life of the loan.