Home Equity Loan or HELOC vs. Reverse Mortgage: How to Choose

Home Equity Loan or HELOC vs. Reverse Mortgage: How to Choose

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If you’re a homeowner and 62 or older, you might be weighing your options to access your home’s equity. A reverse mortgage, home equity loan, or home equity line of credit (HELOC) could provide the cash you need for living expenses, home improvements and repairs, medical bills, or almost any other purpose.

A reverse mortgage does not require you to make loan payments while you’re alive; HELOCs and home equity loans do. But repayment is only one of several factors to consider if you’re contemplating these mortgage products.

Find out how each option works to determine which one best suits your needs:

How home equity loans and HELOCs work

Home equity loans and HELOCs are both second mortgages. With either loan, you can borrow money based on how much equity you have in your home. You’ll repay the money in monthly installments.

Since these loans are secured by your home, they have relatively low interest rates. However, second mortgages are considered riskier for lenders than first mortgages.

As a result, you can expect HELOC and home equity rates to be one or two percentage points higher than current mortgage rates.

What you’ll need to qualify: The requirements to get a home equity loan or HELOC include a credit score in the mid-600s (or higher) and a debt-to-income ratio of 43% or less.

You’ll also need to have a good chunk of home equity — most lenders will want you to have at least 15% equity in your home.

Understanding home equity loans

Home equity loans allow you to borrow against the value of your home and receive a lump sum at a fixed interest rate. You can repay the money over a term as long as 30 years.

You’ll have to start repaying both principal and interest within about a month of getting your loan proceeds.

Understanding HELOCs

HELOCs allow you to borrow any amount up to an established credit limit. Instead of borrowing the money all at once, you can borrow smaller sums as you need them. In this way, HELOCs are similar to credit cards.

Unlike a credit card, though, which allows you to borrow and repay money indefinitely, a HELOC limits borrowing to a specific draw period — generally between five to 10 years.

Many lenders don’t require borrowers to repay any principal during the draw period; instead, they only ask that you pay interest on what you’ve borrowed.

Tip: Most HELOCs have variable interest rates, but you might be able to find a lender that offers a fixed-rate option, which can help you more easily manage your payments and potentially save you money in interest.

How reverse mortgages work

A reverse mortgage gives you cash to spend however you want. If you still owe money on your first mortgage, you’ll have to use the reverse mortgage proceeds to pay it off, and the remaining proceeds are yours.

However, it’s not a second mortgage, and it doesn’t require you to make monthly payments.

The amount you can borrow will be higher depending on:

  • How old you are
  • How much your home is worth
  • How low current interest are

A reverse mortgage’s loan balance grows over time but isn’t due until you die or permanently move out of your home. Usually, the lender gets repaid by selling the home. Alternatively, the owner’s heirs can repay the loan and keep the home.

The most common reverse mortgage — a home equity conversion mortgage (HECM) — offers payment options in one of three ways:

  1. Line of credit: Similar to a HELOC, you’ll borrow the amount you need and only pay interest and fees on what you borrow. Any credit you don’t use in your credit line will continue to grow (up to the maximum amount of your mortgage).
  2. Fixed monthly payments: You’ll have two choices for how to receive your fixed monthly payments. “Tenure” payments provide payments for as long as you live in your home. “Term” payments provide payments for a certain number of years.
  3. Lump sum: You’ll receive all of the funds at one and pay interest and fees on the entire loan amount.

Qualifications for a reverse mortgage

You must meet these qualifications to be eligible for a HECM reverse mortgage:

  • Be at least 62 years old
  • Own and occupy an eligible property type, such as single-family home, as your primary residence
  • Be able to afford ongoing property charges, including homeowners insurance, property taxes, and maintenance
  • Own your home mortgage-free, or have at least 50% home equity
  • Complete a HUD-approved reverse mortgage counseling session
  • Not be delinquent on any federal debt (such as taxes or student loans)

Pros and cons of home equity loans and HELOCs

The main benefits of home equity loans and HELOCs are their relatively low interest rates and the opportunity to borrow lots of money, while the main drawback is that these loans are secured by your home, potentially increasing your risk of foreclosure.

Pros and cons of a home equity loan

Pros Cons
Low, fixed interest rate Secured by your home
Fixed monthly payments Must have good credit
Long repayment period Interest adds up over time
Low closing costs Must have enough income to qualify

Pros and cons of a HELOC

Pros Cons
Borrow as needed over up to 10 years Variable interest rate
Fixed monthly payments Not paying principal during draw period can increase borrowing costs
Long repayment period Must have good credit
Low closing costs Must have enough income to qualify

Pros and cons of a reverse mortgage

A reverse mortgage loan allows seniors to access their home’s value even if they can’t afford monthly payments or qualify for other types of loans, but it comes with considerable costs.

Pros Cons
Credit score not a factor in approval High closing costs
Income not a factor in approval Harder to leave your home to heirs
No repayment required as long as the home is your main residence Mortgage insurance premiums and monthly servicing fees
You’ll never owe more than your home is worth Variable interest rate on most payment options

See: Reverse Mortgage Alternatives: 5 Options for Seniors

Which option is right for you?

If you can meet a lender’s income and credit requirements, reverse mortgage alternatives like a home equity loan or HELOC will probably be better options. These loans have much lower upfront costs and are easier to understand than reverse mortgages.

Home Equity Loan or HELOC vs. Reverse Mortgage: How to Choose

  Home equity loan HELOC Reverse mortgage
Min. borrower age 18 in most states 18 in most states 62
Fund access Lump sum As needed Lump sum, as needed, or monthly
Interest rate Fixed Usually variable but can be fixed Usually variable but can be fixed
Required monthly payments Principal and interest Interest only during draw period; principal and interest during repayment period None
Min. credit score Mid-600s Mid-600s None
Equity required More than 20% More than 20% More than 50%

When to consider a home equity loan

  • You can meet credit and income requirements
  • You want predictable monthly payments
  • You need a lump sum for a specific purpose
  • You want to leave your home to your heirs

When to consider a HELOC

  • You can meet credit and income requirements
  • You want the flexibility to decide when to borrow and how much
  • You want to make interest-only payments for the first several years of the loan
  • You’re comfortable with a variable interest rate
  • You want to leave your home to your heirs

When to consider a reverse mortgage

  • Your home equity is your biggest asset
  • You want to age in place
  • You have poor credit
  • You don’t want to make monthly payments
  • You’re an older retiree
  • You’re okay with the lender selling your home to repay the loan once you move out or pass away

Tip: Even if you’re retired, you may still qualify for a second mortgage based on your retirement income from sources such as Social Security, annuities, a pension, or your retirement accounts.

Another option to consider: Cash-out refinancing

Older homeowners might be interested in cash-out refinancing as an alternative means of tapping home equity.

With a cash-out refinance, you take out a new first mortgage that’s larger than the balance on your existing mortgage. The proceeds from your new loan pay off your existing mortgage and your closing costs. You then get to keep the rest of the money to use however you want.

A cash-out refinance can be a good option when prevailing mortgage rates are lower than the rate you’re currently paying, you have good credit, and you’re capable of affording the new monthly mortgage payments.

Credible can help you get started with your cash-out refinance. Checking refinance rates on our platform is simple and only takes a few minutes — and it won’t impact your credit score.

Get the cash you need and the rate you deserve

  • Compare lenders
  • Get cash out to pay off high-interest debt
  • Prequalify in just 3 minutes

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About the author

Amy Fontinelle

Amy Fontinelle is a mortgage and credit card authority and a contributor to Credible. Her work has appeared in Forbes Advisor, The Motley Fool, Investopedia, International Business Times, MassMutual, and more.

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