You may have heard or seen the acronym in commercials or online, but what is a HECM exactly? How does it work?
HECM (which is often pronounced heck-um by industry insiders) stands for Home Equity Conversion Mortgage, which is the most common reverse mortgage product in the United States. If somebody you know recently got a reverse mortgage, it’s likely they got a HECM.
The HECM program was created and signed into law by President Ronald Reagan as part of the Housing and Community Development Act of 1987. Today, the HECM is overseen and regulated by the Federal Housing Administration (FHA) under the authority of the Department of Housing and Urban Development (HUD). Over 50,000 HECMs are written every year in America and the number is set to grow significantly in the future.
What is a HECM and How Does it Work?
The HECM is designed to give homeowners aged 62 or older access to a portion of their home’s value without a mortgage payment or giving up ownership of the home. As long as at least one borrower (or non-borrowing spouse) is living in the home and paying the required property charges, no mortgage payments are required.
You always remain the owner of the home and you’re free to leave it to your heirs. Your heirs will inherit any equity remaining in the home whether they choose to keep it, sell it, or let the lender sell it.
The HECM is a non-recourse loan, which means the most that will ever have to be repaid is the value of the home. If the home isn’t worth enough to settle the entire balance, FHA will cover the shortage out of the Mutual Mortgage Insurance Fund.
Because the HECM is a home loan, interest accrues on the borrowed money. If no mortgage payments are made (which is the point, right?), interest simply accrues onto the loan balance over time. HECM interest rates are usually pretty comparable to 30-year rates for traditional “forward” mortgages.
The HECM is highly versatile and can be tailored to your financial goals. Proceeds can be received as a line of credit, lump sum, monthly term or tenure payments, or some combination of all. HECM borrowers commonly use the proceeds to:
- Eliminate existing mortgage payments
- Eliminate other debts, such as credit cards and auto loans
- Finance home improvements
- Supplement retirement income
- Pay off medical bills
- Increase liquid retirement assets
- Set up a rainy day or emergency fund
- Take a vacation
As you can see, the HECM can be used for just about anything you like. Again, no mortgage payments are required (as long as you meet your program obligations) and you always remain the owner of your home.
There’s a lot of misconceptions and misinformation floating around out there about the reverse mortgage. The following are a few of the most common ones:
Misconception #1: “I’m giving up ownership of my home.” Not at all. A reverse mortgage is fundamentally just a home loan, but one designed to give you access to your equity without having to sell the home or take on a monthly payment. Like a traditional forward mortgage, you always retain title ownership of the home. You are not selling your home to the bank when you get a reverse mortgage.
Misconception #2: “The reverse mortgage will use up all of my equity.” A reverse mortgage is designed to convert equity into cash over time, yes, however, the goal is also to preserve equity. It is not a healthy program if it uses up your equity quickly.
Misconception #3: “I’ll be passing on a big debt to my heirs.” The reverse mortgage is a non recourse loan, which means that a debt can never be passed on to your heirs. If there’s not enough value in the home to pay off the entire balance, you or your heirs are not responsible to cover the shortage. The program is insured against that.
Misconception #4: “Reverse mortgage interest rates are sky high.” Not at all. In fact, HECM reverse mortgage rates are often comparable to traditional mortgage rates.
Is a reverse mortgage right for you?
Whether or not the HECM reverse mortgage is the right option for you depends on your goals and plans for the future. The following are some scenarios where a reverse mortgage may not make sense:
- You plan to move in the near future. Though there is no limitation on selling and moving when you have a reverse mortgage, the program is better suited to people who plan to stay in their homes for the foreseeable future.
- You desire to pass the maximum equity you can to your heirs. The reverse mortgage is designed to convert equity into cash over time, so if your goal is to preserve or build as much equity as you can, then it probably doesn’t make sense for you.
- You have young children or somebody with disabilities living with you and you want them to continue living in the home if you pass. The reverse mortgage becomes due and payable once the last borrower has passed away or permanently moved out of the house. If you have other people living with you who won’t be capable of paying off or refinancing the reverse mortgage, it could result in them having to move out of the home. Having said that, you may be able to protect against this with a life insurance policy or other assets that are adequate to pay off the reverse mortgage.
However, if you’re over 62, a homeowner, and you plan to live in your home for the foreseeable future, a HECM reverse mortgage could substantially improve your retirement lifestyle and financial security.
Check out next: How Does a HECM Reverse Mortgage Work?