Your home can provide you with a surprising source of money when used properly. For example, according to Investopedia, you can usually mortgage up to 80% of your home’s value before you’re topped off. However, options like a reverse mortgage or home equity loan may work well in different situations. Typically, a home equity loan is a better option for most people.
So, if you’re deciding between these two investment options and don’t know where to turn, read on to learn more. We’ll discuss the nature of both financing methods and highlight their pros and cons. In this way, you can better understand why a home equity loan works best for most people.
Reverse Mortgage Facts
The concept of a reverse mortgage may initially seem confusing, but it makes sense when you break down its basics. Put simply, it’s a tax-free loan based on your home equity offered to homeowners 62 and older. It starts by paying off your mortgage and giving you the rest of the cash.
Naturally, there’s a catch you need to understand before getting one. While you no longer have to pay monthly payments on your home, you do have to pay property taxes, homeowner’s insurance, and home maintenance. Furthermore, you must repay the loan if you sell the house or change residence.
In this situation, the reverse mortgage balance and the interest are due to the lender. That means you must pay it back immediately, typically from the cash you get selling the house. As a result, this option isn’t great for people who plan on moving soon.
That said, the fact that it pays off your home makes it an appealing option. Many people try a reverse mortgage and live better for it. That said, you must understand the benefits and downsides of this financing option. Doing so can ensure that you don’t get in over your head with it.
Reverse Mortgage Pros and Cons
Many older people get a reverse mortgage because they no longer want to make house payments. For example, individuals on a lower income may get one to cut back on their expenses and avoid unnecessary costs. Even better, they don’t require you to fit a specific income requirement.
Surprisingly, this cash is also tax-free, meaning you don’t have to claim the money as income. As a result, you can funnel it into paying off credit card debt, medical bills, or growing living expenses. That said, these loans include significant drawbacks that you must understand before getting one.
First, your loan balance will continue to increase if you don’t pay your interest payments. Even worse, when getting one, you must pay origination fees, closing costs, insurance coverage, and other expenses. Some people even lose their homes because they can’t pay off the loan when it’s due or forget to pay property taxes.
Lastly, it’s harder to qualify for these loans than some other types. After all, you must be over 62 to even apply for one. Beyond that, you must follow various guidelines, such as possessing specific credit scores and income demands. While these rules aren’t the most stringent, they cause you to miss out on their benefits.
Home Equity Loan Facts
A home equity loan taps into your home’s value and overall equity. It provides you with a large lump sum upfront that you repay over a specific payment cycle. These cycles vary on your situation and often include several years of repayment that help manage your principal and interest.
You get 85% of your home’s total equity at most, according to our team, though you may get less. When deciding, the lender examines things like your credit score, financial situation, and other factors. So, if you have $100,000 in home equity, you could get a loan for $85,000.
Unlike a reverse mortgage, you set up repayment immediately and must meet monthly payments. Some people prefer that because they don’t enjoy having the threat of a lump collection hanging over their heads. Paying in this way also keeps your loan from dramatically increasing due to interest.
It’s important to remember that you don’t need to take the full 85% equity in the loan. You can borrow up to that amount but can also take far less. For example, you could use $20,000 rather than $85,000 to pay off credit cards and other financial burdens.
Home Equity Loan Pros and Cons
Many people prefer this lending option because it has fewer downsides than a reverse mortgage. For example, you have no usage limitations, meaning you can take your cash and use it however you want. This step may include investing in home improvements or paying off serious credit card debt.
Furthermore, most people qualify for those loans equally, and you don’t have to be over 62 to apply. That’s a huge deal if you need cash and don’t qualify for a reverse mortgage. Even the shared qualifying factors, such as credit scores, are far lower than reverse mortgages.
Though it’s true this loan requires monthly payments, they’re typically fixed and have far lower interest rates than a reverse mortgage. You may even stagger your payment out over time, meaning you can get a unique income that keeps you solvent. Notably, your repayment period is longer, which should trigger less repayment stress.
That said, home equity loans are not perfect. You may risk foreclosure if you ever default on the loan. Secondly, they add a secondary loan to your home, which might be financially challenging. Typically, you can avoid these issues with proper financial management support.
The Better Option
Though a reverse mortgage might seem more appealing at first, they often cause more problems than they solve. Just think of the setup for a second: you get a large amount of money and don’t have to make payments. That sounds too good to be true, right?
Unfortunately, it is too good to be true because, as we mentioned, that loan value will increase if you don’t make interest payments. Even if you make just your interest payments, the loan will hang over your head for years. So, what’s the big deal if you never have to repay it?
Well, if you have children and you don’t repay your reverse mortgage before you pass, what do you think happens to them? That’s right: they get stuck with your debt, including the incurred interest. After all, a reverse mortgage must be paid back eventually, even if you’re not the one to do it.
That makes a reverse mortgage something like a trap for many older adults. While you can set up monthly payments and avoid this problem, many people don’t and end up in even worse financial straights. Even worse, their bank officer may not advise them of this risk when finalizing their loan.
Even if you don’t get as much money from a home equity loan as you would with a reverse mortgage, they’re a much safer option. They set up immediate monthly payments and don’t include the danger of rapidly increasing debt. That alone makes them a better choice for most people.
While both a reverse mortgage and a home equity loan may benefit you, the second option typically works best for most people. They simply have fewer downsides and potential pitfalls and provide substantial financial support. If you’re interested in a home equity loan or other financing option, please contact Canal Bank today to learn more. We’ll work with you to ensure you get the best experience possible and minimize your payments as much as possible.
