Did you know reverse mortgages include interest just like any other loan? But, depending on the type of reverse mortgage you receive, the amount of interest you will have to pay may vary significantly. We explore the different types of reverse mortgages available as well as the most common methods of repayment.
How Do Reverse Mortgage Rates and Payments Work?
Like other loans, the Home Equity Conversion Mortgage (another word for a reverse mortgage) accumulates interest based on the funds that you receive from the loan. Each day, these charges are calculated and then added monthly to the loan balance. If you already have a reverse mortgage, you might have noticed them on your monthly statement. Also, keep in mind that until a reverse mortgage comes due, you will never have to make a payment on this type of loan. Just make sure to stay on top of obligations such as property taxes, homeowners insurance, and maintenance expenses.
Calculating HECM Interest Rates
Interest rates are a complicated matter. Decided upon by government agencies, investors, and international groups, interest rates are constantly fluctuating within a (relatively) small range of percentages. Furthermore, the type of interest rate you receive will depend on the kind of HECM you receive. If you want a fixed rate, you will have to take your proceeds as one lump sum. But, if you would like an adjustable rate, you can get a lump sum or you will also be able to receive a portion of your money each month or gain access to a line of credit that may grow over time if it remains untapped. Let’s take a closer look at the advantages and disadvantages of each type of interest rate.
Pros and Cons: Fixed Rates vs. Adjustable Rates
As the name implies, fixed rate reverse mortgages will not change over time. Getting a fixed rate HECM means that you won’t have to worry about the possibility of substantial increases to your interest rate in the future. However, it also means that you will have to take your proceeds as a lump sum payment. Furthermore, borrowers who take a lump sum are restricted to withdrawing only 60% of the principal limit of the loan during the first year after getting a reverse mortgage (lest they incur an increased fee). This rule was put in place by the federal government in order to persuade borrowers to make their money last as long as possible.
Adjustable Rate HECMs are a flexible alternative to the fixed rate loan. Unlike the lump sum-only payment model provided by fixed rate HECMs, the variable rate version allows you to receive your money through a line of credit, monthly payments, a lump sum, or a combination of all three. Because this is an adjustable rate loan, the interest rate may increase or decrease over time.
Paying Back a Reverse Mortgage
If you’re familiar with loan terminology, you may know that reverse mortgages are non-recourse loans. This means you will never have to pay back more than the value of your home. Imagine the following two scenarios: in one instance, 1) you take out a reverse mortgage and your house grows in value, but in the other scenario 2) your house declines sharply in value after you receive a reverse mortgage. In the first scenario, you might decide to sell your home to pay back the debt and you will be able to pocket the remainder of your home’s equity for yourself.
However, in the second scenario where your home dropped in value, let’s say that the debt from the reverse mortgage exceeds the value of your home. You might be worried that you would have to pay this extra debt, right? Thankfully, you won’t have to. Because reverse mortgages are non-recourse loans, you will be able to sell your home and eliminate your reverse mortgage debt in its entirety because FHA insurance will cover the difference.