How to Choose a Reverse Mortgage Payment Plan

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How to Choose a Reverse Mortgage Payment Plan

The home equity conversion mortgage, the most common form of reverse mortgage, offers six alternative options for you to get the funds (HECM).The first five options are referred to as “payment plans” by the United States Department of Housing and Urban Development (HUD), which oversees HECMs.

  • Option 1: Tenure Plan
  • Option 2: Term Plan
  • Option 3: Line of Credit Plan
  • Option 4: Modified Tenure Plan
  • Option 5: Modified Term Plan

Since you don’t get the money over time, the sixth choice isn’t exactly a payment plan. Instead, when the loan ends, you get them all at once.

Your plan of action will determine how much money you will get over the short and long term, how fast your home equity will be depleted, and how well a reverse mortgage will help you achieve your financial objectives.

Here is a look at each payment option’s operation as well as its advantages and disadvantages.

Key Takeaways

  • Homeowners with sufficient equity in their main, single-family dwelling and who are age 62 or over may apply for a home equity conversion mortgage (HECM), a sort of reverse mortgage.
  • Although HECMs dominate the reverse mortgage industry, there are other options for receiving and disbursing loan profits.
  • Here, we examine the workings as well as the advantages and disadvantages of each choice.

Adjustable-Rate Payment Plans

All of the first five reverse mortgage payment schedules feature variable rates. In the event that you choose one of these, your interest rate will fluctuate yearly in accordance with an index plus a margin decided by the lender and specified in your mortgage contract. From one year to the next, the rate cannot rise by more than 2 percentage points. Additionally, the rate cannot rise more than 5 percentage points above the initial rate.

To put it another way, if your beginning rate is 3%, it cannot rise over 5% the next year or above 8% at any time.

With a reverse mortgage, a big shift in interest rates won’t put you at danger of default as it may with a forward mortgage. However, a higher interest rate does have an impact on your home equity, which means you might get less money if you decide to sell the house. If you don’t want to live in your house the rest of your life, this can be something to think about carefully.

The examples of your payment plan possibilities when you apply for a reverse mortgage with an adjustable interest rate will utilize an anticipated interest rate. The adjustable interest rate will average out to this amount throughout the course of your loan, in the lender’s opinion. The age of the youngest borrower and the value of the property are the other two major criteria that affect how much you may borrow.

Let’s go through your five payment alternatives now that you have a broad knowledge of how adjustable-rate plans function. Keep in mind that “payment” here refers to the method through which you will receive the loan funds.

Option 1: Tenure Payment Plan

How It Works

As long as at least one borrower occupies the property as their primary residence, you will receive equal monthly payments under a tenure payment plan. The calculation of your monthly payments is done on the premise that you’ll live to be 100 years old. The next choice, a term payment plan, may be preferable if you don’t anticipate living that long. You will continue to get payouts if you live a longer life. The tenure payment plan is a fantastic option if you want to have a consistent monthly payment for the rest of your life while living in your house.

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Pros

Tenure payments are perfect for those who require regular monthly income and anticipate staying in their homes for a long time, according to Casey Fleming, branch manager at Fairway Independent Mortgage Corp. in San Jose, California, with more than 30 years of experience in the mortgage business. With a tenure payment plan, as long as you continue to adhere to the loan’s other conditions, you won’t have to worry about running out of reverse mortgage funds.

Cons

This plan won’t assist you in paying any significant debts that you may have. The reverse mortgage will also become due and payable (this is true regardless of payment plan) if you have to leave your home due to health issues, or if you fall behind on required property charges, such as homeowners insurance, property taxes, and basic maintenance, and you won’t receive any further payments until you rectify the default.

Whatever proceeds remain from the sale of your house after the reverse mortgage is repaid will be given to you or your heirs. In the worst-case situation, though, when there is a downturn in the housing market and high interest rates, you could not make any money.

Option 2: Term Payment Plan

How It Works

You get consistent monthly payments for the length payment plan you choose, such as 10 years. Term payments are preferable if you are certain of how long you will remain in the house, according to Fleming. “Those who plan to move away in a few years or older people—80 and up—may choose this style.”

Pros

Comparing the monthly payments to a tenure payment plan, it is greater. You may continue living in the house as your primary residence until you pass away or vacate even if you won’t be receiving any more monthly payments when the loan’s term is over (as long as you continue to meet the other loan conditions, such as paying your property taxes).

Cons

Unless you pass away during the loan period, you won’t get a stable income for the rest of your life. You can deplete your home equity too quickly in your life and be without a backup source of funding.

Option 3: Line of Credit (LOC)

How It Works

You have unrestricted access to funds via a line of credit as needed. If your amount is less than the principle limit, you may choose when and how much of your credit line to use. Your lender cannot demand that you remove a particular sum or a minimum quantity on a specific timeframe.

Pros

There is a lot of freedom with a line of credit. You may take out a large lump amount up front, then take out more loans over time, giving you access to the extra equity that the fixed-rate payment plan has locked up.

You may also put off using the line for a long time in case you ever need it. Equal or comparable monthly withdrawal amounts are also permitted. In essence, you may tailor your withdrawals to your requirements and modify them as necessary.

Although you have greater control, a line of credit may function similarly to a lump-sum, tenure, or term plan. Additionally, the unused part of your credit line increases over time at the same interest rate that you pay on the borrowed money.

It’s also simpler to sell and relocate later or even leave money to your descendants since you only pay interest on the money you actually borrow. A reverse mortgage line of credit, unlike a home equity line of credit, cannot be terminated, even if the value of your house drops or your financial condition becomes worse.

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Cons

By taking out the maximum amount of your principle limit in year one and the remaining 40% on day one of year two, you may exhaust a line of credit. You won’t have access to money if you do that.

Additionally, since it might take up to five business days to get the funds you request from your line of credit, you must be sure to have enough money in your checking account to cover any last-minute expenses.

Option 4: Modified Tenure Plan

How It Works

For so long as one borrower is in the house as their primary residence, you get fixed monthly payments along with access to a line of credit. You will have access to the same total amount of money, but the fixed monthly payments and the line of credit will be lower than they would be with a straight tenure plan and straight line of credit plan, respectively.

Pros

You have freedom in deciding the amount of your credit line as well as your monthly payments. You might choose a lesser credit limit if you want higher monthly payments. Smaller monthly payments are an option if you desire a bigger credit line.

It enables you to handle your normal monthly cash flow requirements without taking on additional debt. By choosing this option, you reduce your chance of exhausting your equity and being unable to transfer later should the necessity or desire arise. It also lowers your interest expenditure.

Cons

This payment schedule certainly isn’t your best choice if you urgently need a large chunk of money.

Option 5: Modified Term Plan

How It Works

You have access to a line of credit as well as a set monthly payment for a defined period of time, so long as one borrower continues to occupy the property as their primary residence. You will have access to the same total amount of money, but the fixed monthly payments and the line of credit will be less than if you choose a straight term plan and straight line of credit plan, respectively.

Pros

The number of your monthly payments and the length of time you will receive them are both up to you, and they will be more than they would be under a modified tenure plan, assuming the same size credit line. Additionally, you have the option to choose the size of your credit line.

If you haven’t exhausted your line of credit at the conclusion of the term, you’ll still have access to the loan proceeds. Similar to the modified tenure plan, you may reduce your interest costs while still having enough equity to transfer at a later date.

Cons

The money from the reverse mortgage might run out. If you anticipate needing money after the term has ended, you must utilize your line of credit cautiously since you only get monthly payments for a certain period of months or years. The greatest option for significant upfront financial requirements is not this plan.

Option 6: Fixed-Rate, Lump-Sum Payment

You only have the choice of a single-disbursement lump-sum payment if you desire a fixed-rate reverse mortgage.

How It Works

When your reverse mortgage closes, you get a sizable sum all at once. Up until the reverse mortgage is paid off in full, interest is accumulated on that sum, the continuing monthly mortgage insurance charges, and any funded closing expenses. Compared to adjustable-rate plans, the initial interest rate is greater, but a lower long-term interest rate is anticipated.

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Pros

This kind of loan should be used to pay off a big mortgage amount or to cover another substantial obligation. According to Fleming, lump-sum distribution is most effective for those who have a sizable existing mortgage that has to be paid off. If you need all or almost all of your available revenues at once, this choice is optimal.

Cons

No further revenues from this Loan shall be payable to you. Borrowers who are poor with money management or whose health has made it more difficult for them to do so run the danger of wasting the profits or using them up too rapidly. Scammers (including family) may sometimes persuade elderly people to take out this kind of loan or target homeowners who have just done so.

The major negative, in virtually all circumstances, is that “the maximum draw in year one is 60% of the original principal limit,” according to Fleming. Since there is just one drawback to this choice, the loan’s maximum amount is rather little. The remaining 40% remains yours as home equity. That 40% is never available for borrowing, but having it on hand may be helpful if you wish to sell your house and pay off your reverse mortgage.

You must choose an adjustable-rate payment plan in order to gradually access all of your equity.

What reverse mortgage payment plans are available?

Term, Line of Credit, Modified Term, Modified Tenure, and Modified Term are the five reverse mortgage payment plans. These programs all have variable interest rates. The sixth choice offers you a lump cash at closing and a set rate.

Recall that a reverse mortgage payment plan refers to the method through which the lender sends you money; homeowners who take up this kind of loan are not required to make regular payments.

Can I change my reverse mortgage payment plan?

Yes. As long as you are moving between the adjustable rate plans, you may alter how you get the earnings from your reverse mortgage throughout the loan period without refinancing your debt. After closing, you cannot change your plan from an adjustable to a fixed rate.

What is the best reverse mortgage payment plan?

According to Fleming, “Which alternative is preferable relies totally on the scenario and demands of the customer.

As a general rule, I prefer a line of credit over tenure or term payments, however. In the same way that you might with a tenure or term plan, the line of credit allows you to make monthly withdrawals, but it also provides you the freedom to withdraw additional money in case of an emergency and accrues interest if you don’t use it.

The Bottom Line

Due to the wide range of financial requirements of senior homeowners, HECMs provide so many payment options. There is no one choice that is always good or terrible.

To determine which payment option is best for you, do your homework and speak with your lender and reverse mortgage consultant often.

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