A Home Equity Conversion Mortgage or HECM, also known as a reverse mortgage, is a mortgage which allows seniors 62 and over to convert the equity of there home into cash. Unlike a conventional mortgage, with the HUD insured HECM there are no monthly mortgage payments required. Instead the borrowers have options on how they want to receive the cash “paid” to them: a lump sum, monthly payments, a line of credit, or a combination of these. It shouldn’t be looked at as “one size fits all.” One needs to evaluate the different options to decide which is best for their situation. Let’s review them here.
A Lump Sum – A lump sum is pulling an amount of funds at the time of closing. A lump sum can be done with both the adjustable rate program and the fixed rate program. The adjustable rate program offers more flexibility because one can choose the amount they want at the time of closing with the remainder received in monthly payments or a line of credit. The fixed rate program requires borrowers pull out all of the funds in a lump sum at the time of closing.
Considerations that need to be taken into account with the lump sum:
- Pulling all funds at closing is ideal if one has a use for all the funds. For example used to pay off a current mortgage or other debt or to purchase a new home without the requirement of monthly mortgage payments.
- If one doesn’t have a use for all the funds, what will be done with funds not used? A savings account and CDs are not paying much interest so that is generally not wise to pull all funds and place in savings accounts or CDs.
- The interest starts accruing on the loan balance when the funds are drawn so in the case of a lump sum, the interest is added on the amount drawn up front. If one doesn’t have a use for the funds and they are put in a savings account, the interest accrued will likely be higher than what is earned as interest on funds in a savings account.
- Pulling all the funds in a lump sum could impact one who is on or going on Medicaid (Medical Assistance in MN) or other public benefits. Funds from the reverse mortgage are not considered income because it is a loan against the property, so they are not considered an asset for Medicaid qualifications. However if one pulls funds from the reverse mortgage and place them in their checking account, savings account, a CD or other investments, they could then be considered an asset and impact qualifying for Medicaid and other public benefits.
Minnesota law allows for reverse mortgage borrowers to pull funds and spend them in the month they were received and not impact their Medical Assistance and other public benefits. Check with your state’s laws to see what is allowed where you live.
- For example I had a borrower who was on Medical Assistance (MA), doing the reverse mortgage to be able to remain in her home with home care. For her convenience the family was having a bathroom installed on the main floor. At the time of closing they pulled $10,000 for the bathroom installation. Because it was spent within the month, she remained on MA. However if they had only spent $5,000 of the lump sum draw, she may have lost her MA benefit because the additional $5,000 would have put her over the allowable $3,000 in assets. (Check with an elder law attorney to see what is allowable in your state.)
With their fixed income Paul and Mary were struggling making their mortgage payments on their conventional mortgage. They did a fixed rate payment plan HECM using all the funds available from the reverse mortgage to pay off their conventional mortgage. Without having monthly mortgage payments their cash flow improved: the $1,200 monthly mortgage payment they had been making on their conventional mortgage was now available to meet their other needs.
Jim and Paula used the fixed rate reverse mortgage to purchase a new home closer to their children.
I emphasize that choosing to pull the funds out in a lump sum should only be done if you have a use for all or the majority of the funds at the time of the draw.
Monthly Payment Option – The amount of money one could receive as a monthly payment. The borrower can receive tenure (for “life”/as long as the home is your primary residence) payments or determine the amount they wish to receive each month. For example, a term payment can be received for a certain period of time, i.e. 10 years. Or a fixed amount each month, i.e. $100 each month or $800 each month. This option is only available with the adjustable rate program.
Considerations for receiving monthly payments:
- It’s a great option to add extra cash each month in an amount that fits one’s needs if they need a regular amount each month.
- Offers control so one pulls out what one needs each month.
- The loan balance won’t grow as quickly as with a full lump sum draw. Interest only accrues on the amount pulled at which time it becomes part of the loan balance.
- If one has not accessed all the funds via monthly payments they are not part of the loan balance to be repaid.
- One can receive Medicaid and other public benefits while receiving funds in monthly increments.
- If one is not spending the funds each month and one is leaving them or a portion of them in their checking account, their checking account balance could accumulate so that they have an asset more than what is allowable for Medicaid or other public benefits.
Margaret was receiving home care and needed additional funds to cover the private pay charges. A reverse mortgage was set up for the amount she needed each month.
With his reverse mortgage, Gene chose the monthly payment option to meet his need of an additional $200 a month to supplement his Social Security payments.
A line of credit – A credit amount from which the borrower can receive funds at any time and in any amount of their choosing. With the reverse mortgage the amount of the line of credit cannot exceed the Principal Limit. This option is only available with the adjustable rate program.
Considerations for the line of credit payment option:
- One chooses when they want to draw funds and in the amount they need or want.
- Offers flexibility and control over your cash flow.
- The loan balance won’t grow as quickly as with a full lump sum draw. The loan balance is increased at the time the borrower accesses funds in the line of credit.
- If one has not accessed the funds in the line of credit they are not part of the loan balance to be repaid.
- One can receive Medicaid and other public benefits with the line of credit option – as long as the funds pulled are spent in the month they are received (check with your state).
- Money in the line of credit can grow, so more money could be available to the borrower in the future. Often confused as an interest rate, it is actually a growth rate. Growth rate means more funds are available for use at a future date. If one has not accessed the money in the line of credit it is not their money so interest is not earned.
Connie did a reverse mortgage so she would have funds available in a line of credit for emergency needs.
After paying off a conventional mortgage for Bob, he left the balance in a line of credit. A year later he pulled some funds and took a dream vacation to Yellowstone with his nephew. He also pulled funds at a later date to modify his home so it would accommodate a wheel chair when the time came.
A combination of payment plans – An option to pull funds as a lump sum at closing, leave some funds in a line of credit and receive monthly payments; pull funds as a lump sum to meed an immediate need then leave the balance in a line or credit or set up as monthly payments; or leave some funds in a line of credit as well as receive monthly payments. This option is only available with the adjustable rate program.
Considerations for the combination payment plan:
- Offers flexibility to meet one’s needs.
- Review considerations for each option outlined above.
When Jerry and Delores did their reverse mortgage a conventional mortgage was paid off, they pulled $3,000 out in a lump sum for some immediate needs, set up a payment plan of $300 a month and left the rest in a line of credit. This fit their needs to improve their cash flow.
Dorothy needed hearing aides. She did her reverse mortgage, using a lump sum draw to purchase her hearing aides then leaving the balance in her line of credit for her future needs.
Note that with the adjustable rate program one can change the payment plan during the term of the loan. For example, after having a mortgage of $50,000 paid off at closing, and initially one pulls $1,000 at the time of close but leaves the balance in the line of credit, after 3 years one can have the payment plan restructured to receive a monthly payment amount. There is a one-time fee of $20 for the payment plan change.
Three years after Jerry and Delores did their reverse mortgage they no longer needed the monthly payments so they contacted the servicer of their reverse mortgage and stopped the monthly payment, leaving all the funds in the line of credit.
These same payment plan options are available for both the HECM Standard and the HECM Saver.
The reverse mortgage is beneficial to seniors if the right payment plan is chosen. As outlined, there are advantages and disadvantages for each of the options. Review these considerations and work with your reverse mortgage expert to help you decide which option is right for your situation.
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