What are the 3 types of reverse mortgages?

As homeowners age, financial security can become a pressing concern—especially when considering the costs of healthcare, everyday living, and home maintenance. 

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Luckily, for many retirees, they possess a valuable financial asset—a home. Tapping into home equity through financial tools like reverse mortgages can offer a path to ease financial burdens and bolster reserves. But what exactly are reverse mortgages, and what options are available for homeowners?

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This blog will explore the 3 types of reverse mortgages and frequently asked questions about this tricky financial product. 

How do reverse mortgages work?

A reverse mortgage allows homeowners to tap into their equity for cash without selling their homes or making monthly payments. With a reverse mortgage, instead of the homeowner making payments to the lender, the lender makes payments to the homeowner. The loan is then repaid when the homeowner sells the home, moves out, or passes away.

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With the exception of single-purpose reverse mortgages, there are generally no restrictions on how you can use the funds. Homeowners can use the money to:

• Cover daily living expenses
• Pay off debt
• Fund home repairs or improvements
• Pay for healthcare costs or long-term care
• Supplement retirement income

Requirements

Homeowners must:

• Be at least 62 years old.
• Live in the home as their primary residence.
• Undergo a financial assessment.
• Own their home outright or have a large amount of equity. 

Conditions

As part of the loan terms, borrowers must continue to live in the home as their primary residence, keep the property in good condition, and pay property taxes and homeowner’s insurance throughout the life of the loan. 

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Failure to meet these conditions could lead to the loan becoming due prematurely. In the event the homeowner cannot repay the loan, they may be forced to sell the home or face foreclosure. 

Repayment

Repayment of a reverse mortgage happens when the borrower passes away, sells the home, or no longer lives in the house for more than 12 consecutive months (such as in the event of a move into a long-term care facility). In the event the homeowner passes away, heirs can either repay the loan to keep the house or sell the home to pay off the debt.

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It’s also possible to get out of a reverse mortgage early, particularly if you want to keep the home, remove the burden for heirs, or simply want to access more equity. There are several ways to pay off or refinance a reverse mortgage and settle the loan. 

What are the 3 types of reverse mortgages?

Generally, each type of reverse mortgage works similarly and has comparable requirements and conditions. However, the notable distinctions can make all the difference in your journey to securing financing. 

Home equity conversion mortgages (HECMs)

HECM loans are insured by the Federal Housing Administration (FHA) and regulated by the U.S. Department of Housing and Urban Development (HUD). 

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You’re required to complete a HUD-approved counseling session to ensure a total understanding of costs, payment options, and responsibilities before proceeding. Counselors can also provide information about relevant alternatives, such as nonprofit or government grants and programs, during the session. 

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Home value and current FHA lending limits determine the maximum borrowing amount you’re eligible for. 

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Key characteristics of HECMs:

• High flexibility: Funds can be received as a lump sum, line of credit, fixed monthly payments, or a combination of these options. Additionally, the funds can be used for any purpose.
• Government-insured: HECMs are backed by the federal government, meaning you’re protected if something happens to your lender or they go out of business.
• Non-recourse loan: With a HECM, you (or your heirs) will never owe more than the value of the home at the time the loan is repaid, even if the loan balance exceeds the home's value.
• Extra costs: Unlike other types of reverse mortgages, HECMs require upfront and annual mortgage insurance premium expenses. 

‍Single-purpose reverse mortgages

Need money to cover a home-related expense? If so, a single-purpose reverse mortgage may be worth consideration. These loans are tailored to meet a specific need, like tackling home repairs or paying property taxes. 

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Single-purpose reverse mortgages are offered by some state and local governments, nonprofit organizations, and credit unions. You can explore potential lenders by visiting eldercare.gov or calling 1-800-677-1116 to find the nearest Agency on Aging. A counselor will be able to discuss loan and grant options for housing-related expenses, including any single-purpose reverse mortgage lenders in your area. 

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Key characteristics of ‍single-purpose reverse mortgages:

• Less expensive: Single-purpose reverse mortgages are backed by the government and nonprofits, meaning they tend to have lower fees and rates. 
• Low flexibility: The loan amount is usually smaller, and the funds can only be used for the designated purpose. 
• Targeted assistance: If your income is too low to qualify for other types of loans, a single-purpose loan may be a lifeline. 
• Not widely available: They’re less common than other types of reverse mortgages because they’re typically reserved for low-income homeowners.

Proprietary reverse mortgages

If you live in a high-cost-of-living area like San Francisco or New York, you may want to tap more equity than a HEMC will allow. In that case, a proprietary reverse mortgage may be a better option.

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Proprietary reverse mortgages are private loans that are not insured by the federal government. They are often available to homeowners with higher-value homes who want to use the funds to accomplish any number of financial goals. 

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Key characteristics of proprietary reverse mortgages:

• High flexibility: You can unlock more of your equity and use it as you need. 
• More expensive: Proprietary reverse mortgages typically have higher interest rates and fees than other types of reverse mortgages. 
• Steeper requirements: Not only will you need a high-value home, but you’ll also need to own much of the equity in the property.
• Non-FHA insured: These loans have fewer homeowner protections and are generally not non-recourse loans. 

Alternatives to reverse mortgages

Home equity investment

Many homeowners find reverse mortgages attractive because they offer no monthly payments and have less stringent requirements than home equity loans or home equity lines of credit. 

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An equity product that offers similar features is a home equity investment (HEI). An HEI offers homeowners a lump sum of cash with no monthly payments in exchange for a share of the home’s future appreciation. Homeowners have a flexible 30-year term and can settle their investment whenever they sell the home, refinance, or use alternative funds (reverse mortgage funds included). 

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There are no income requirements, and homeowners need a credit score above 500 to qualify. However, unlike a reverse mortgage, there are no age restrictions, use of fund restrictions, or stringent conditions throughout the partnership. HEIs also require less owned equity and do not require you to pay off your first mortgage with the proceeds. 

Home equity line of credit

A home equity line of credit (HELOC) offers homeowners a revolving credit line that works similarly to a credit card secured by the equity in their home. There’s a 5 to 10-year draw period, where you’re on the hook for interest-only payments. Once the draw period ends and the repayment period begins, you’ll repay the principal plus interest via monthly payments over a 20-year term. 

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Unlike reverse mortgages and home equity investments, requirements are more stringent. You’ll need a credit score of at least 620, a debt-to-income ratio (DTI) of 43% or less, and sufficient income. However, HELOCs require less equity than reverse mortgages—you generally need 15% to 20% to qualify. 

Home equity loan

A home equity loan is another popular reverse mortgage alternative. It allows you to access your equity for a lump sum of cash. You'll repay the loan via fixed monthly payments over a 5 to 30-year term. 

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You’ll generally need a credit score of 620, a DTI of 45% or lower, and sufficient income to qualify. 

Cash-out refinance

A cash-out refinance replaces your existing mortgage with a new, larger one, allowing you to pocket the difference as a lump sum. The new mortgage will come with new terms and, ideally, a better rate. Therefore, a refinance is only worth exploring when rates are low, and your credit is in great shape. 

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The loan proceeds can be used for any purpose. Additionally, unlike a second mortgage, there's no additional monthly payment. Instead, the debt will be rolled into your new monthly mortgage payments.

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You'll need at least 20% equity, a credit score above 620, a DTI of less than 43%, and sufficient income to qualify. 

Frequently asked questions

How much money do you actually get from a reverse mortgage?

You can generally access between 40% to 60% of your home's value. However, age, interest rates, and the type of reverse mortgage can all impact how much money you actually get from a lender. Typically, older borrowers with higher-value homes and lower mortgage balances can access more equity. A proprietary reverse mortgage will allow homeowners to unlock the most equity in their homes. 

What is the most commonly used type of reverse mortgage?

The home equity conversion mortgage (HECM) is the most commonly used type of reverse mortgage. This is because it's widely available, and the funds can be used for any reason. A HECM also offers the most flexibility in disbursement and has specific consumer protections. 

What type of reverse mortgage is the cheapest?

Single-purpose reverse mortgages are generally the least expensive, but they are only available for specific purposes and may not be available in all areas. 

When is a reverse mortgage a good idea?

A reverse mortgage can be a good option for homeowners who are “house-rich but cash-poor,” meaning they have substantial home equity but limited cash flow or investments. This refers to anyone with low, fixed, or even fluctuating income who wants to remain in their home but needs to come into cash. Whether a reverse mortgage makes sense for you depends on your needs, eligibility, and implications for your heirs, if relevant. Be sure to explore the pros and cons before deciding. 

What is the downside to a reverse mortgage?

The potential downsides include high upfront costs (such as closing costs and mortgage insurance) and the requirement to maintain the home and pay property taxes and insurance. Failure to meet these obligations can result in foreclosure.

What disqualifies you from getting a reverse mortgage?

Factors that can disqualify you from getting a reverse mortgage are that you don’t meet the age requirement, you don’t have sufficient equity, the home is not your primary residence, or you don’t have enough income to cover ongoing home maintenance and homeowners insurance costs or property taxes. If your home is not it good condition, you may also need to bring it up to standards. 

What happens to a reverse mortgage after you die?

When the borrower of the reverse mortgage loan passes away, the loan becomes due. 

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The heirs or estate have several options:

• Sell the home to repay the reverse mortgage, with any remaining proceeds going to the heirs.
• Keep the home by paying off the loan balance, usually done through refinancing or cash reserves.
• Let the lender sell the home if the loan balance exceeds the home's value. In this case, the loan is considered settled, and any shortfall is covered by FHA insurance if it's a HECM.

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Heirs are not personally liable for any debt beyond the home's value.

Final thoughts

Reverse mortgages offer an accessible way for homeowners to access the equity in their homes, but they also come with significant considerations. 

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Whether you’re considering a HECM, a single-purpose reverse mortgage, or a proprietary reverse mortgage, it’s essential to understand the terms and weigh your options carefully. Before deciding, consult with a financial advisor to determine the best option for your financial situation.

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If a reverse mortgage sounds limiting, consider an HEI with Point. Enjoy the same benefits—no monthly payments, no income requirements, and no need for perfect credit—with fewer restrictions. Visit Point.com to learn more.