Access to a HELOC is NOT guaranteed. What about a HECM?
Last week the average $30,000 HELOC or home equity line of credit loan was 7.32%. Keep in mind those were the averages before the Federal Reserve hiked its short-term rates another 75 basis points in the first week of this month. Vikram Gupta, executive vice president and head of home equity at PNC Bank told Time, “The home equity product is still great to have. So, if you can qualify for one now, I recommend doing it because things are only going to get worse. You might not be able to qualify for it six months from now”. What Mr. Gupta fails to mention is that you may qualify for a HELOC today, only to have your credit line frozen or reduced at the lender’s discretion in the future.
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How quickly longtime homeowners forgot that as the 2008 housing crash worsened banks and non-bank lenders froze or reduced the credit lines of millions of homeowners, even those with good credit. New homebuyers may have no idea that HELOCs were ever frozen. Well, there’s a good chance that HELOCs credit lines will be reduced or frozen next year as the pace of home price declines is already exceeding 2008 crash levels. The lesson that should have been learned? Securing a home equity line of credit is one thing, but keeping it is quite another.
It is for this reason that older homeowners may want to reconsider applying for a HELOC loan. The typical requirements for a HELOC are a minimum credit score of 680, a maximum loan-to-value of 85%, and a debt-to-income ratio below 43%. Sure, they may be able to secure the loan, but there’s a strong possibility they’ll be stuck making required monthly payments for their existing balance while having no access to additional funds. All this begs the question, why not a reverse mortgage?
There are two reasons most older homeowners never consider a HECM as a HELOC alternative. First, most Americans who’ve heard about a reverse mortgage have no clue that a HECM loan can provide a line of credit (or unspent loan proceeds). Most only understand that a reverse mortgage eliminates any required monthly mortgage payment. That’s it. And that’s perhaps the primary reason older homeowners with substantial equity and seeking a line of credit never pursue the loan. Second, those who learn that a HECM can serve as a viable HELOC alternative are typically put off by the HECM’s high upfront costs. Fair enough.
But let’s look closer at the costs of these two loans. Before we do I need to mention I am not a financial advisor. I am a reverse mortgage commentator, trainer, and passionate supporter of the proper use of reverse mortgages. So always seek the advice of a trusted professional when considering a reverse mortgage.
Now to the crux of the matter. The average closing costs on a HELOC range from $3,700-$4,500. But let’s not overlook the monthly cost of required payments. A $70,000 HELOC at 7.32% would require a monthly payment of $427 during the 10-year draw period if all funds were utilized. Beginning in year 11 the monthly payments would increase to $556.The total interest and principal paid out of pocket over 30 years totals $184,000.
By contrast, the estimated total HECM loan costs for a $525,000 home would total about $15,000 of which $10,500 is the upfront FHA mortgage insurance premium. However, unlike a HELOC, no monthly payments are required. Therefore the financed fees for their HECM can be appreciated in light of the fact that in three short years that $15,000 of additional cashflow is realized by not having to make payments on at $70,000 on a HECM, unlike a HELOC loan. Even better, the line of credit cannot be frozen unless the homeowner fails to meet the conditions of the HECM loan or in some cases if an eligible non-borrowing spouse survives the primary borrower. Otherwise, the homeowner enjoys future access to a HECM line of credit that grows over time regardless of any decline in their home’s value.
In the age of an uncertain economy, inflation, and volatile lending standards the value of a HECM over a HELOC is in its flexibility, no required monthly loan payments, and strong guarantees. When it comes to cash flow and future access to funds a HECM outshines nearly any benefit a HELOC may offer.
Additional resources used:
[Time] Why the Federal Reserve’s Rate Hike Will Make HELOCs and Home Equity Loans More Expensive
Home Equity Loans and HELOCs: Average Closing Costs
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