What it means
In an ordinary mortgage, you borrow to buy a home and pay the balance down over time. A reverse mortgage works the other way round: you already own much of the home, and the lender pays you, while the debt grows.
The money can come as a lump sum, a monthly payment, a line of credit or a mix. HECMs are insured by the Federal Housing Administration, a United States government agency, which is why they are standardised and why borrowers must meet certain conditions.
The borrower must live in the home as a main residence, keep up property taxes, insurance and maintenance, and receive counselling from an approved adviser before borrowing. The amount available depends on the borrower's age, the home's value, current interest rates and a lending limit that is set by the authorities and changes over time.
The cost is the main trade-off. Interest and fees are added to the balance each month, so the debt can grow quickly, and there are upfront costs and ongoing mortgage insurance premiums.
Because interest compounds (is charged on interest already added), the balance after many years can be much larger than the amount borrowed. HECMs are typically non-recourse, which means the borrower or heirs never owe more than the home is worth when the loan is repaid.
Heirs can keep the home by repaying the balance or the appraised value, whichever is lower, or they can sell the home and keep any surplus. If the balance exceeds the home's value, the insurance fund absorbs the shortfall.
For retirees, the product can fund living costs, pay off an existing mortgage or provide a safety net for emergencies. It is not suited to everyone, and financial planners compare it with alternatives such as downsizing, selling the home or drawing on savings.
A frank conversation with family about the effect on inheritance is advised.
In practice
Real-world examples.
Example
A 72-year-old retired teacher owns her home outright and receives modest pension income. She sets up a HECM line of credit, drawing on it only when her boiler fails and needing no monthly repayment on the amount drawn.
Example
A couple in their late 60s still owe $80,000 on their home loan. They use a HECM to pay it off, removing the monthly payment of $900 and freeing up cash flow, although the new loan balance will grow each year.
Example
A financial planner compares a HECM with downsizing for a client. After modelling fees, the expected time in the home and the client's wish to leave the property to her children, they choose to sell and move to a smaller home.
Formula
Calculation
Loan balance after n years = amount drawn x (1 + annual rate / 12) ^ (12 x n)
This simplified version ignores insurance premiums and fees, which would make the balance higher.
Suppose a borrower draws $100,000 and the interest rate is 6% a year, charged monthly.
Step 1: Monthly rate = 6% / 12 = 0.5%, or 0.005.
Step 2: Number of months in 5 years = 60.
Step 3: Growth factor = (1.005) ^ 60 = about 1.3489.
Step 4: Balance = 100,000 x 1.3489 = about $134,890.
After 5 years, the debt has grown by about $34,890 without the borrower paying anything. After 10 years the factor would be (1.005) ^ 120, about 1.8194, giving a balance near $181,940.Case study
Seen in the real world.
Eleanor Whitcombe is a fictional retiree with a home worth $400,000, no mortgage and monthly spending that exceeds her pension by $1,200. A counsellor explained the HECM, and she chose a line of credit with a first draw of $20,000 and regular small withdrawals.
Over the following decade, in this illustrative case, her balance grew faster than she had expected because interest compounded on each withdrawal. Her children understood from the start that the home would carry a debt, and they agreed that the arrangement let her stay independent in the house she loved. The advisers stressed that the plan worked because she kept paying property taxes and insurance on time.
Watch out
Common mistakes.
- Believing the lender owns the home after the loan is made, when the borrower keeps title and remains responsible for taxes, insurance and upkeep.
- Ignoring fees and insurance premiums, which add to the debt and reduce the equity left for the family.
- Assuming heirs must sell the home, when they can usually keep it by repaying the lower of the balance or the home's appraised value.
Questions
People also ask.
Who can take out a HECM?
Homeowners aged 62 or older who live in the property as their main home and meet the lender's and insurer's requirements, including counselling.
When does the loan have to be repaid?
Typically when the last borrower sells the home, moves out permanently or dies, or if the borrower breaches loan conditions such as unpaid property taxes.
Can the debt exceed the value of the home?
The balance can grow beyond the home's value, but the loan is non-recourse, so the borrower and heirs are not required to pay more than the home's value.
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