Inman: Reverse Mortgage Advantages Outweigh HELOC Option

The use of a reverse mortgage is not a one-size-fits-all approach to retirement, but certain products will help senior borrowers more than others, writes Jack Guttentag, a.k.a. The Mortgage Professor in a series of recent articles on reverse mortgages featured in Inman News. When comparing the loan with a Home Equity Line of Credit, however, there are some clear advantages the reverse mortgage presents that are not found in the HELOC, he writes. 

Despite there being different uses for people looking to meet different needs in retirement, Guttentag hones in on the use of a reverse mortgage to supplement income pending the sale of a home. He writes: 

Seniors planning to sell their house in a few years who need additional funds in the meantime can use a HECM or a home equity line of credit (HELOC). While HELOC borrowers must pay interest on the amounts they draw, over a short period they can increase their draw by enough to cover the interest so that the net cash withdrawal is comparable to the draw on a HECM credit line or term annuity.

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The advantage of the HELOC is that the upfront costs are lower — in some cases, zero — and the interest rate in most cases will be lower than the HECM rate plus the HECM mortgage insurance premium. This means that, assuming the borrower withdraws the same amount of cash on both, after any given period the HELOC debt will be lower than the HECM debt. That is the case for using a HELOC to meet short-term needs.

But the HELOC has significant disadvantages that in many cases will shift the balance of advantage to the HECM.

1. The HELOC borrower must qualify based mainly on income and credit, as with any forward mortgage. Many seniors won’t qualify for a HELOC.

2. If the senior changes her mind about selling the house and decides she wants to remain, she is in trouble if she took a HELOC because the HELOC must be paid off. The HECM doesn’t.

3. The borrower using a HELOC as a source of additional cash is dependent upon being able to draw against the unused portion of the credit line. But the lender can cancel the unused line at any time, and will if a question arises about the borrower’s credit, income or property value. This is not a risk with a HECM.

 View the full article at Inman News, or on The Mortgage Professor’s website

Written by Elizabeth Ecker

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  • Jack Guttentag comments that, “If the senior changes her mind about selling the house and decides she wants to remain, she is in trouble if she took a HELOC because the HELOC must be paid off. The HECM doesn’t.”. He’s right, but some elaboration of the “trouble” might be worth spelling out.

    Jack mentions the HELOC borrower deciding to stay in the home instead of selling as an example of what could force a short-term “Bridge Loan” tactic into a long-term scenario for which it becomes problematic. Other changes include losing a job, or if a spouse dies and income is reduced, or if medical expenses increase. Or maybe the borrowers just got bad advice or thought they would pass away before they used up all the HELOC funds. 

    Bottom line?  If something forces the short-term to long-term change, and the borrowers don’t or can’t shift to repayment then…
    1.  They’re going to use up their HELOC funds while still obligated to make payments and that adds additional stress on their income.
    2. If their tactic was to use temporary HELOC draws to make HELOC payments, then long-term payments will become a problem and they could face foreclosure by the HELOC lender. 
    3. If the HELOC balance is large enough, they are headed for insufficient equity to be able to use a reverse to payoff the HELOC unless they can negotiate a corresponding short payoff amount with the HELOC lender.

    • Bill,

      As an HECM originator, I love your three-point, last paragraph and yet as an independent financial planner, it is too slanted.  It demonstrates, however, something that many in our industry seem confused about, the difference between the mandates of being ethical and being independent advice.  The owner of the first firm I worked at was very bothered by my approach because it reeked of being an advisor rather than being an ethical but proactive proponent of the product.

      You open the paragraph with the idea of having to move from short-term to long-term considerations.  While equity is impacted by debt, that impact is usually gradual and somewhat stable.  It is also generally the easiest
      component of the equation for the property owner to control.  Home value is much different.  It can easily be subject to volatile swings with little the property owner can do about significant shifts. 

      While none of the prior paragraph is remarkable for its insight, the minuend (home value) of the equity equation is
      totally missing from your last paragraph and yet generally in long-term considerations it is the factor which has the greatest impact on home equity. For example, during the housing boom of the last decade, one of my HECM
      customers saw her home go from $330K in value to slightly over $850K a 158% increase.  Because of payouts and accrued costs the debt side of her home equity computation went up 100% (to $200K).  Her equity went up 183%.  When the bust came and the dust settled, her
      home value dropped by slightly over 29.4% (to $600K), her debt had gone up 10%,and her equity had dropped by 42% (to $380K).  Yet comparing her situation at HECM origination to where she ended up, her home value had increased 82%, her debt had risen by 120%, and her equity was up 65%.  Home appreciation was by far the biggest determinant in home equity in that seven year span.  Even despite her significant HECM proceeds
      payouts, her debt stayed fairly stable during the rise and fall in home values.

      As an ethical HECM originator there is absolutely nothing wrong with your third paragraph but as an independent CPA advising his client, there is something very wrong.
       Further as a competent financial planner, my advice should be two fold:  one based on personal opinion and the other colored by the risk tolerance and general outlook of my client.  So while I may agree with your analysis, it is my duty as an independent advisor to bring balance to the
      conversation and also remind my client of his risk tolerance which may be much different than mine or yours.

      Being ethical originators does not mean we necessarily provide an independent or unbiased voice.  To be
      required to do so would in far too many cases result in a clear conflict of interest.

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