This is Bill Hornbeck, your reverse mortgage expert.
Welcome to a continuation of a 3-part series designed to provide an overview of the FHA-insured Home Equity Conversion Mortgage, commonly known as the Reverse Mortgage.
In this session, we are going to discuss side 2 of the HECM Equity Triangle, the option that enables senior homeowners to use the HECM home equity loan primarily as a Standby Line of Credit.
Let’s remember that the Reverse Mortgage, which we previously discussed in part 1, is essentially called a reverse mortgage because the homeowner can actually “reverse” the flow of funds with the home equity Lender. Instead of making monthly mortgage payments to a lender, the homeowner can enter into an agreement in which the available home equity can be converted into a life expectancy draw in which a portion of home equity can be distributed to the homeowner on a monthly basis. In the early days of the HECM program, the lenders would market the Reverse Mortgage under an advertising banner which stated “Don’t Pay the Bank, Let the Bank Pay You!
But, let’s be clear…the bank isn’t actually paying you anything. You are actually borrowing your money in monthly increments. The great part about that, though, is that the funds are distributed under a very special term of life calculation that will distribute the available funds to you, as needed, as long as you live in your home.
That’s a great deal for those who want to receive stable monthly funds to add to Social Security payments and any other retirement funds that may also arrive on a monthly basis.
OK, so now let’s take a closer look at option #2 of the Home Equity Conversion Mortgage, the option that lets a senior homeowner access a level of home equity to serve as a Standby Line of Credit. A line of credit that can serve as a source of funds at the time they are most needed. For elder health care, for home repairs, and for other retirement income shortfalls.
What’s interesting about that is that the Financial Planning industry is now shining its Hollywood Spotlight on the HECM Line of Credit as a recognized and appropriate method of utilizing home equity as part of a strategic retirement plan.
John Salter is a PhD and Certified Financial Planner who in addition to serving as a faculty member at Texas Tech University, is also a nationally recognized wealth manager and author of multiple books and white papers on the subject of the Reverse Mortgage.
I was privileged to be on a phone call with John Salter along with a small group of HECM lenders and I was fascinated by his insights. He said that members of the financial planning industry need to educate their clients better about the difference between Net Worth and Available Wealth. Net worth is customarily locked up somewhere, like home equity in the ground. Available Wealth is money that is liquid and immediately available for access. We like Net Worth because it makes us look financially strong. But, you can’t get that money next Tuesday, when you might really, really need it. And that makes us financially weak.
So Dr. Salter and many of his colleagues are sounding the alarm to get retirees and pre-retirees to understand that the best thing you can do is utilize home equity as a serious part of a sound financial plan.
His research, and that of his colleagues, has shown that the use of a HECM line of credit in the earlier years of retirement, rather than using it as a loan of last resort, can significantly improve the likelihood that a retirement portfolio will ultimately show a greater level of success.
One of the reasons for that success is that the homeowner who draws from an investment portfolio, instead of home equity in the early days, is potentially in a position to draw down on the very assets that can grow over time when left alone. In other words, the retiree may be picking the future fruit way too early.
I have to tell you that the HECM Line of Credit is the best secret ‘never told’. Very few people understand that the HECM line of credit can be a better choice than a local bank’s Home Equity Line of Credit, whose acronym H-E-L-O-C is pronounced as a HELOC.
Let’s compare the two.
Remember those easy credit days leading up to the 2008 global financial collapse? Many homeowners eagerly obtained a HELOC to establish necessary cash for an upcoming “rainy day." And, for many, it was soon a torrential downpour. Few realized that with the crash of home values, those lines of credit were also underwater. The loan-to-value ratio on many HELOC loans moved dramatically upward. And that was when some borrowers promptly received a letter from the bank stating something like “…based on the fact that your home is now valued much less than the valuation upon which the original loan was based, your HELOC is hereby revoked!” In other words, you still owed what you had already borrowed, but there were no more funds available. Your line was closed and that was that.
But, not so with the HECM Line of Credit. Under the terms of the FHA-insured Home Equity Conversion Loan, your line of credit cannot be reduced or cancelled just because your home’s market value has decreased. In fact, the HECM line of credit can actually grow each year based on an intriguing set of calculations that add the dollars representing the annual interest rate and other fees back into the line as accessible funds.
So, while it is true that a bank’s Home Equity Loan is less expensive to acquire, it is also less secure as true protection against time-based lack of availability of funds. With a bank, you can get a line of credit with very little costs, but the fact remains that the line of credit may not be there when you need it most.
The HECM line of credit, on the other hand, is a full real estate refinance. Although it cannot be cancelled like a HELOC loan, it does entail the standard closing costs that relate to such loans in the form of appraisal fees, title search, recording fees, lender fees and other costs that add up to a few percentage points of the total loan amount. But, you don’t have to write a check for those fees. You can choose to roll those costs into an opening loan if you prefer.
Maybe you could be better off to go ahead and write a check for those settlement fees and establish the HECM line of credit as a completely unused, totally available source of funds. In this scenario, since no funds have been extracted, there are no interest charges. If you need some money, take it…but try to pay it back as soon as you can to keep interest charges low. In any event, you are not required to make any monthly payments of principal or interest, so you are not obligated to maintain a credit history or be at risk of foreclosure through non-payments.
So, as Dr. John Salter and other renowned researchers who study the Reverse Mortgage options say, the HECM line of Credit is an excellent source of funds that can (and often should) be utilized in addition to, but not instead of, a properly designed financial plan.
You can learn more about the HECM Line of Credit and the other options relating to the HECM Equity Triangle by visiting www.SeniorLifestyleMortgage.com. There you can find additional insights, white papers, blog articles and more. I will look forward to seeing you there.
So this concludes session #2 of the 3-part Podcast Series relating to the major components of the Home Equity Conversion Mortgage.
This has been Bill Hornbeck, your reverse mortgage expert. So long… Let’s continue...