A reverse mortgage and a home equity loan both result in a home owner receiving cash from a mortgage lender based on a percentage of the value of the home minus existing mortgages. The similarities between the two loan types, however, end there. They appeal to different types of borrowers, carry a different set of application requirements and result in a different repayment process.
The qualification that equity loan and reverse mortgage applicants have in common is the value of the home, which must appraise at a value that meets the lender’s standard relative to the requested loan amount. A home owner applying for an equity loan must also be able to document that his income is sufficient to repay the loan and must have a good credit score, demonstrating a consistent history of repaying other loans on time. A home owner applying for a reverse mortgage needs neither income nor good credit, but he must be at least 62 years of age and live in his home.
Both loan types come with an interest rate charged against the loan principal. Equity loan borrowers make monthly loan payments until the principal is paid off, generally over a 15- to 30-year term. Reverse mortgage borrowers do not have to make any loan payments; rather, interest accrues on the principal. There is no set loan term for a reverse mortgage. The loan continues until the borrower leaves the home for a period of 12 months, dies or voluntarily repays the loan.
Maximum Loan Amount
Typically, a home equity loan can be taken out for up to 80 percent of the value of the property, less any existing mortgages. For a reverse mortgage, the maximum loan amount is based on a maximum appraised value of between $271,050, for parts of the country with lower average values, and $625,500, for parts of the country with higher average values, and is usually for no more than about 60 percent of the home value. While an equity loan can be taken out in addition to a first mortgage, a reverse mortgage must be used to pay off any existing mortgage.
Effect on Heirs
When a homeowner dies, his heirs must repay any existing home equity or reverse mortgages. In some instances a bank must allow heirs to continue to make loan payments on a home equity loan if they do not want to pay off the entire loan. An heir is not permitted to make partial payments on and remain in a reverse mortgage. He has 12 months from the borrower’s death to fully repay the mortgage. Because home equity loans are paid down while the borrower remains living in the home, equity is likely to be left in the property and will belong to the heirs. Because reverse mortgages are not paid down while the borrower remains living in the house, and instead the interest accrues on the principal, there may be little or no equity left in a home with a reverse mortgage.
Mary Gallagher runs Mary Gallagher Planning (mgaplanning.com), an urban planning and consulting business in San Francisco. She is the former assistant planning director for San Francisco and planning director for San Mateo. Gallagher has been writing about real estate, development and land use for numerous websites since 1995. She holds a master's degree in historic preservation planning from Cornell University.