Reverse mortgage are federally insured1 home equity loans that allow qualified seniors to access a portion of their home equity as usable funds. Reverse mortgage interest rates are either fixed or variable interest rates.
Interest rates for variable rate reverse mortgages are comprised of an index rate plus the lender’s margin. The index rate is not set by the lender; it is based on the London Inter-Bank Offered Rate (LIBOR).2 ; The index rate typically changes monthly as economic conditions change. On March 21, 2018 the 1 month LIBOR rate was 1.85%.3
The margin portion of the variable interest rate is set by the lender. This portion of the rate is not variable. It remains the same throughout the life of the loan.
The interest rate for fixed rate reverse mortgages is determined at the time of closing. With a fixed rate reverse mortgage, borrowers are given their loan payment in a lump sum at closing.4 The loan accrues interest on this lump sum amount.
Typically the interest rate for fixed rate reverse mortgages is initially higher than the variable rate because these loans are more risky for the lender.
Which rate is better?
A fixed rate loan avoids the risk of the interest rate going up after the loan is processed. However, the borrower is constrained to receiving all of their money in a lump sum payment and therefore pays interest on the entire payment.
A variable rate reverse mortgage is more flexible with its payment terms. The payment can be set up as a line of credit or monthly payments. The line of credit grows over time5 and interest only accrues on the portion that is withdrawn. Monthly payments can be set up for a set length of time, or for the life of the loan.
The type of reverse mortgage that is best for the borrower depends on their current financial situation. If the borrower needs a lump sum payment of the loan proceeds a fixed rate reverse mortgage is recommended. If the borrower would like to set up a line of credit as an emergency fund, or receive monthly payments to help offset their cost of living they will be better suited to a variable interest rate loan.
If you are a senior homeowner interested in learning more about a reverse mortgage try out reverse mortgage calculator to receive a quick estimate of how much you may be eligible to receive within just a few minutes.
1 Federal Housing Administration (FHA) mortgage insurance premiums (MIP) will accrue on your loan balance. You will be charged an initial MIP at closing. The initial MIP will be 2% of the home value not to exceed $13,593. Over the life of the loan, you will be charged an annual MIP that equals .5% of the outstanding mortgage balance.
2 United States Department of Housing and Urban Development. Section D. Reverse Mortgage Loan features and Costs Overview. https://www.hud.gov/sites/documents/7610-0_5_SECD.PDF
3 Bankrate. LIBOR, Other Interest Rate Indexes. https://www.bankrate.com/rates/interest-rates/libor.aspx
4 The funds available to the borrower may be restricted for the first 12 months after loan closing, due to HECM reverse mortgage requirements. In addition, the borrower may need to set aside additional funds from the loan proceeds to pay for taxes and insurance
5 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.