Eligible homeowners that are determined to withdraw the equity from their homes have two general options: reverse mortgage and home equity loan. In this post, I’d like to briefly explore the advantages and disadvantages of each and try determine which choice is better.

Technically a reverse mortgage is a type of home equity loan, but with one important difference. While a conventional home equity loan must be repaid in periodic (monthly) installments, the interest/principal on a reverse mortgage loan is only due when the loan matures. Therein lies the main advantage (and pitfall) of a reverse mortgage loan, from the perspective of (potential) borrowers. Let’s put this aside for a moment, however, and look at the other differences.

From a cost standpoint, a home equity loan (as well as a cash-out refinancing, for that matter) will almost always be less expensive than a reverse mortgage. The origination fees for the two products are comparable, but reverse mortgages require upfront and annual insurances premiums. In addition, since a reverse mortgage is negatively-amortizing, total interest paid over the life of the reverse mortgage will always be greater than interest paid on a comparably-sized home equity loan.

Failure to repay a home equity loan in accordance with the terms of the loan agreement will almost certainly lead to foreclosure, while a reverse mortgage doesn’t need to be repaid until the borrower passes away or moves out of the home. Although, taxes and homeowners insurance must continue to be paid, and the property must be maintained by the borrower for as long as the loan is outstanding.

In short, for homeowners that currently have no existing mortgage debt and whose cash need is moderate and short-term, a home equity loan is probably the better choice. It will be less expensive to the borrower and will leave the borrower with his home equity intact after the mortgage is repaid. For homeowners with existing mortgage debt and whose cash needs are large/indeterminate, a reverse mortgage is a more realistic option. It basically eliminates the possibility of foreclosure and fixes it so that you don’t need to continue making payments on your primary mortgage. Just be advised that when the reverse mortgage comes due, you might not have much equity left in your home.

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