In addition to understanding how a reverse mortgage works, it's wise to consider alternatives to a reverse mortgage before making a decision on which solution is best for you. Reverse mortgages are available to homeowners aged 62 and above; they can provide cash from your home equity and don't require monthly payments, but a reverse mortgage reduces the value of your estate and may present concerns for heirs or non-borrowing partners and spouses. If you're looking for cash to support living expenses, here are four options:
Home equity loan: A home equity loan is also called a second mortgage or junior mortgage. It works exactly like a primary mortgage and may be a good choice if you still owe a significant amount on your first mortgage. A home equity loan provides a specific amount of cash that is repaid with fixed monthly payments at a fixed interest rate. Home equity loans are a great choice if you have unexpected bills or want to pay off credit card debt, vehicle loans or other high-cost debt.
Home equity line of credit (HELOC). A HELOC provides access to home equity funds on an as-needed basis. It can provide a financial cushion and you don't have to pay interest on a HELOC until you use it. The Consumer Financial Protection Bureau advises that your home equity line of credit will have a variable interest rate and you'll repay any amount drawn against your HELOC in monthly installments. A HELOC can be a good choice for homeowners who desire a source of funds to be used as needed.
Traditional refinance: Depending on your needs, traditional refinancing may help reduce your monthly mortgage payments and/or the cost of consumer debt. If you're planning to keep your home for a few years, you can benefit from a traditional refinance after the break-even point on closing costs expires. If you need additional cash flow, you can further reduce payments by extending the loan term out to thirty years, but you'll pay additional interest over a longer loan term. Another refinance option is a cash-out refinance that provides additional cash along with a new mortgage at a lower interest rate. This option requires careful calculation to determine if taking out cash to pay off consumer debt is worth paying refinancing costs.
Downsizing to a smaller home: AARP reports that empty nesters may find it difficult to sell the home where they've raised a family, but the upside can be a smaller home with lower home maintenance requirements and costs. Consider selling your home and buying a smaller place. It may be possible to eliminate mortgage payments if your current home is nearly paid for and has enough equity to cover the purchase of your new home.
Reverse Mortgage Alternatives: Things to Keep in Mind
While reverse mortgages and their alternatives have pros and cons, there are a few things to keep in mind as you consider each.
- Cost: All types of mortgages and home equity financing carry costs. Request quotes for reverse mortgages, home equity loans and HELOCs to estimate costs for each option.
- Monthly payments: Reverse mortgages do not require monthly payments. Traditional refinancing, home equity loans and HELOCs do require monthly payments. A reverse mortgage is due and payable in full when the last borrower or qualified non-borrower spouse leaves the mortgaged home. If a reverse mortgage becomes due and payable due to the death of the last borrower or qualified non-borrower spouse, the reverse mortgage must be paid off. This is typically done by your heirs refinancing or selling the mortgaged home.
- Selling your home also involves costs: Selling and downsizing your home can help lower monthly payments, but you'll pay a sales commission for selling your current home and closing costs related to the sale of your current home and purchase of a new home. Moving and relocation costs also reduce potential savings. Remember to include these expenses when considering downsizing as an option.
The Consumer Financial Protection Bureau encourages homeowners to contact a HUD approved housing counselor for more information on reverse mortgages.