What is Home Equity Conversion Mortgages (HECM)?
The Home Equity Conversion Mortgage (HECM) is the Federal Housing Administration’s (FHA) reverse mortgage program which enables you to withdraw some of the equity in your home. You choose how you want to withdraw your funds, whether in a fixed monthly amount or a line of credit, or a combination of both.
You can also use a HECM to purchase a primary residence if you are able to use cash on hand to pay the difference between the HECM proceeds and the sales price plus closing costs for the property you are purchasing.
- A home equity conversion mortgage (HECM) is a type of reverse mortgage that is Federal Housing Administration (FHA) insured.
- HECMs make up the majority of the reverse mortgage market.
- HECM terms are often better than those of private reverse mortgages, but the loan amount is fixed, and mortgage insurance premiums are required.
How a Home Equity Conversion Mortgage Works
Home equity conversion mortgages are a popular type of reverse mortgage; in fact, they make up the bulk of the reverse mortgage market. Generally, reverse mortgage terms can vary with privately sponsored reverse mortgage products officially known as proprietary reverse mortgages potentially allowing for higher borrowing amounts with lower costs than HECMs.
HECMs, however, will typically offer lower interest rates for borrowers. The economics of a HECM versus a privately sponsored reverse mortgage will depend on the borrower’s age and how long the borrower expects to live or own the home. Many types of reverse mortgages will exclusively target seniors with no requirements for repayment until the borrower sells their home or dies.
A HECM can also be considered in comparison to a home equity loan. A home equity loan is not dissimilar to a reverse mortgage, since borrowers are issued a cash advance based on the equity value of their home, which acts as collateral. However, with a home equity loan, the funds have to be paid back, usually in steady monthly interest payments shortly after the funds are disbursed.
Who is eligible for Home Equity Conversion Mortgages (HECM)?
- Be 62 years of age or older
- Own the property outright or have a small mortgage balance
- Occupy the property as your principal residence
- Not be delinquent on any federal debt
- Participate in a consumer information session given by an approved HECM counselor
The following eligible property types must meet all FHA property standards and flood requirements:
- Single family home or 1-4 unit home with one unit occupied by the borrower
- U.S. Department of Housing and Urban Development (HUD) approved condominium
- Manufactured home that meets FHA requirements
How Do You Get A Home Equity Conversion Mortgage (HECM)?
To get a HECM, you’ll want to go to a lender that offers this type of reverse mortgage. Like other loans, you apply for them. When it comes to the HECM process, there are a few steps you’ll take that are unique to this type of loan.
Required HECM Counseling
Because of the complex nature of the reverse mortgage, the Department of Housing and Urban Development (HUD) requires all borrowers to complete a reverse mortgage counseling session.
The HUD-approved, third-party counseling session ensures you understand how the loan works, the costs associated with it, and any other finance options you may have. Counseling may cost up to $200, lasts up to 90 minutes, and maybe done in person or, in some states, over the phone.
There are three factors that determine how much you can borrow with a HECM:
- The age of the youngest borrower
- Current interest rates
- The amount of equity you have in your home
To ensure borrowers are in a good financial position to take on the financial obligations of the loan (paying property taxes, homeowners insurance, and home maintenance costs), HUD also requires the borrower to undergo a financial assessment during the process.
During the financial assessment, the lender will review a borrower’s income, debts, and credit history, though credit score is not a determining factor in getting a reverse mortgage. Depending on what the financial assessment reveals, the lender may decide to set some of the reverse mortgage proceeds aside to help pay for property taxes and insurance.
There are two types of HECMs: a fixed-rate HECM and an adjustable-rate HECM. The fixed-rate option has an interest rate that stays the same throughout the life of the loan and offers only one way to receive payment in a lump sum.
The adjustable-rate option has an interest rate that may fluctuate throughout the life of the loan and offers multiple payment options a lump sum, monthly payments, a line of credit, or any combination of the three.
If you choose this payment option, all of your reverse mortgage proceeds will be delivered in one lump sum payment. This option is available with a fixed-rate or adjustable-rate HECM loan.
With this payment option, you’ll receive your proceeds in monthly payments. You can receive the monthly payments for a set amount of time, known as term payments, or you can choose to receive monthly payments throughout the life of your loan, known as tenure payments. This option is only available for the adjustable-rate HECM.
A reverse mortgage line of credit is a payment option that puts your proceeds into a line of credit that you can access whenever you need, similar to a home equity line of credit (HELOC). If you don’t use the money right away, the available funds in your line of credit can continue to grow in value over time, providing more money in the future.
As long as you have the loan, the line of credit cannot be suspended or called due. The line of credit payment option is only available with an adjustable-rate HECM.
For an even more customized payment option, you can also combine different payment options. For example, you can have your proceeds put into a line of credit and receive them as monthly payments at the same time.
Advantages of HECM
- Borrowers maintain ownership of their homes
- Tax-free funds
- No monthly loan repayments
- Leniency on credit score, medical, and income requirements
- Retirees can access funds based on their home equity
- Homeowners can obtain funds in their preferred way through a line of credit, modified tenure, etc. based on their preferences
- Homeowners never pay back more than their home values (mortgage insurance covers the balance)
Disadvantages of HECM
- The loan matures if the borrower dies, and people living with the borrower must vacate
- The loan matures if the borrower relocates
- The loan will be called if the borrower can’t pay property taxes, mortgage insurance premiums, maintenance costs, or other fees