Reverse mortgages are perhaps the least understood mortgage product on the market today.
The easiest way to think of a reverse mortgage is as a way to access the equity in your home without having to sell it. Normally your house is an asset that you can’t tap into without putting it onto the market. In order to realize the value you’ve built up in your home, you usually have to sell it.
Reverse mortgages are a special kind of product that gets around having to sell your home.
A reverse mortgage is a kind of loan that you take out against your house, just like a normal mortgage, but where your typical mortgage is used to buy the house in the first place, a reverse mortgage is done when you already own your home.
The mortgage is secured against your house just like a home equity line of credit, but the difference is between the payments involved.
As soon as you use the funds in your home equity line of credit, the balance begins to accumulate interest and monthly payments have to be made, just like a credit card.
With a reverse mortgage, you either get the funds in a lump sum, in chunks over time, or a combination of the two methods, and you don’t have to make any payments at all.
How is that possible?
That’s the first question that most people have with a reverse mortgage. It just seems strange that you can get a loan and never have to make any payments. There must be a catch, right?
The secret to a reverse mortgage is two fold. The first part is the lender limits the amount of money you can access. With the HomEquity Bank CHIP Reverse Mortgage, you can only access up to 55% of the value of the home. The reason they do this is related to the second point.
Gaining Equity In Your Home
The historical rate your home’s value has increased is sitting at an average of around 4% at the moment and has more or less stayed steady for quite a long time.
The trick here is that as long as your home continues to increase in value, the interest on the loan, because it’s limited to 40% or less of the value of your home, will grow slower than the increase in your equity.
In fact, if you took out a reverse mortgage for half your home, your home would only have to grow at half the interest rate of the reverse mortgage for you to not lose any equity at all (more on this below).
And the amount of money you owe can never be more than what your home is worth. This is an important safeguard on a Canadian reverse mortgage, as this gave them a bad name in the USA.
The chart down below reveals how this process works.
In this scenario, a $500,000 home with a reverse mortgage of $250,000 (50% of the value) will increase in value over 10 years to an estimate $740,000, for a total gain of $240,000. The interest on the loan (5.74% for this example) meanwhile accumulates over time as well but only accounts for $190,000.
This means that the equity in the house actually increases each year.
So to circle back to the question at hand, when does it make sense to go with a reverse mortgage?
The answer will depend on your situation and what your goals are. If you own your home but your monthly income doesn’t support the lifestyle you want to live, a reverse mortgage might be a good option for you.
If it’s important to you to stay in your home but you need to access funds and not make payments, a reverse mortgage could make also sense.
There are times when it will make more sense to use a HELOC instead of a reverse mortgage, but you have to weigh the options and consider the pros and cons of each. Talking to a Certified Reverse Mortgage Specialist will give you the information you need to make the best decision.
If you’re at the stage in your life where you are considering a reverse mortgage or you know someone who is, the Ardent Mortgages team can help you make the right decision and then match you with a lender and product that perfectly fits your situation.
And the best part is it’s easy to get started. Just fill out this simple, free, no obligation 90 second application and we will get in touch with you to explore some options.