What Are the 3 Types of Reverse Mortgages?

Reverse mortgages have gotten a bit of a bad rap. But are they as bad as people say? Can a reverse mortgage work for you? The short answer is: it depends on your exact situation –– and what you’re hoping to get out of a reverse mortgage. Reverse mortgages can be great for an older homeowner looking to get equity out of their home. Unlike a traditional sale, however, this equity must be paid back with interest when the home is sold or the owner passes away. This can surprise some older homeowners, their spouses, and their heirs, who enter reverse mortgages without fully understanding the consequences. 

That’s why, whether you or someone you love are considering a reverse mortgage, it’s important to understand their ins, outs, pros and cons. Here’s everything you need to know about the three types of reverse mortgages –– and why a sell and stay transaction may be the better option for accessing your home equity. 

What Is a Reverse Mortgage? 

A reverse mortgage is a specialized loan instrument designed for older homeowners –– those aged 62 and older –– that allows them to convert home equity into cash. Whereas in a traditional mortgage, homeowners pay toward their loan amount, chipping away at the total balance, a reverse mortgage loan does the opposite. Homeowners instead receive their home equity, usually in the form of a lump sum or monthly payments, which must be paid back with interest at a later date.¹ For retired homeowners, this cash can be a lifeline as a primary source of post-retirement income. But it’s far from free. In fact, reverse mortgage interest rates are often higher than other loan options, so even if a property’s value increases over the years, selling the home might not yield a profit regardless of how little equity you actually used.²  

There are three types of reverse mortgages, each with its own set of advantages and disadvantages, which we’ll discuss below. First, here are the general pros and cons for you to consider for any reverse mortgage. 

Pros of a Reverse Mortgage

• No Monthly Mortgage Payments: The most clear benefit of a reverse mortgage is the absence of a regular mortgage payment. On a fixed retirement income, even a small monthly mortgage payment can consume a large chunk. The absence of this payment, therefore, can be freeing for retirees pinching pennies to keep a roof over their heads. 

• Financial Flexibility: One of the best things about a reverse mortgage is that it can provide homeowners with a steady stream of income –– or a lump sum –– to be used for various purposes. Typically, reverse mortgages don't affect your credit score, either. From supplementing retirement income to covering healthcare expenses or even aging in place home modifications, freeing up your home equity can greatly impact everyday life. But reverse mortgages aren’t the only way to do so: home equity loans, HELOCs, and Truehold’s sell and stay transaction are all popular alternatives. 

• Non-Recourse Loan: One key advantage of a reverse mortgage is that, as the homeowner, you won’t be liable for loan repayment. Instead, the loan balance will be repaid from the proceeds of a home’s sale either when you move or after you pass away. Further, most reverse mortgages are non-recourse loans, meaning that the amount owed on the home at the end of a reverse mortgage cannot exceed the home’s value. This can protect your heirs from owing more on the property than it’s worth, giving you peace of mind knowing you aren’t hurting your family’s future in exchange for some added comfort today.³

Cons of a Reverse Mortgage

• Decreased Home Equity: Your home equity is a finite resource, accrued over years or decades of monthly mortgage payments. As you receive each monthly payment or a lump sum via a reverse mortgage, your home equity decreases, meaning there will be less left for your heirs, a surviving spouse, or yourself should you move. 

• Fees and Interest: Reverse mortgages often come with hefty interest charges like any type of loan product, but these aren’t the only fees that can drive up the true cost of a reverse mortgage. Things like appraisal fees, closing costs, and loan processing fees can add thousands to the up-front costs of a reverse mortgage.

• Impact on Government Benefits: Certain government benefits, like Medicaid and Supplemental Security Income, are needs-based, meaning eligibility hinges on monthly income. Fortunately, monthly payouts from a reverse mortgage are not generally regarded as taxable income. However, should you opt for a lump sum payment, your home equity could be considered an asset and therefore impact your eligibility.⁴ Before pursuing any type of reverse mortgage, it’s wise to consult with an expert to ensure you know the full ramifications of this option. 

As you can see, a reverse mortgage isn’t always the perfect fit for everyone. Luckily, if you decide this isn’t for you after the fact, there are plenty of options for how to get out of a reverse mortgage. 

1. Single-Purpose Reverse Mortgage

Whereas general reverse mortgages allow homeowners to leverage their home equity for various uses, income from single-purpose reverse mortgages is tethered to a single approved use. These typically include home repairs and maintenance, like those needed to continue living comfortably in retirement, or recurring expenses like property taxes. Single-purpose reverse mortgages are backed by non-profit organizations and government agencies, making them some of the least costly.⁵

Pros of a Single-Purpose Reverse Mortgage

• Lower Costs: As mentioned above, single-purpose reverse mortgages are often relatively inexpensive compared to other loan options, featuring reduced closing costs and other fees. 

• Easier to Qualify for Specific Financial Assistance: Because single-purpose reverse mortgages provide targeted financial help for homeowners who need to fund lender-approved expenses, they can also be easier to qualify for compared to proprietary reverse mortgages and home equity conversion mortgages (HECMs). 

• Limited Debt Accumulation: One of the most significant advantages of a single-purpose reverse mortgage is that these mortgages make it harder to overspend and drain your home equity. Single-use mortgages are often smaller loans, meaning the overall debt accumulated is typically less than other reverse mortgage types.

Cons of a Single-Purpose Reverse Mortgage

• Limited Availability and Use: A primary reason older adults opt for reverse mortgages is to create added flexibility in retirement, and single-purpose reverse mortgages do not provide this flexibility like other loan options do. For some, this can be an advantage –– preventing excessive debt. For others, it’s reason enough to pursue another pathway. 

• Income Restrictions: Because single-purpose reverse mortgages are government-backed, there are restrictions on who can access this type of loan. The exact requirements will vary between each reverse mortgage lender, but generally, only lower- to moderate-income households will be eligible. 

• Equity Reduction: Though the reduction might be smaller, like any reverse mortgage, a single-purpose reverse mortgage will result in diminished home equity. Think critically about your future goals for your home before pursuing a single-purpose reverse mortgage. 

2. Home Equity Conversion Mortgage (HECM)

The most prevalent type of reverse mortgage, home equity conversion mortgages (HECMs) are also the only type of reverse mortgage insured by the federal government. As such, there are different requirements for HECMs than other types of reverse mortgages and set borrowing limits – both of which contribute to their reputation as a safer option.

Pros of a Home Equity Conversion Mortgage

• Federally Insured: The biggest benefit of a home equity conversion mortgage is that these HECMs are backed by the Federal Housing Administration, providing a layer of security for borrowers by establishing limits on the fees that can be charged and offering a lower interest rate. These perks come at the expense of elevated up-front costs, though many homeowners feel the added security is a worthwhile tradeoff. 

• Flexibility in Use: Unlike single-purpose reverse mortgages, funds from a home equity conversion mortgage can be used for myriad purposes –– like day-to-day living expenses and home maintenance projects. This added flexibility can help provide additional comfort to older adults living on a fixed income. 

• HECM Loan Counseling: A unique feature of HECMs is that borrowers are required to meet with a professional counselor to discuss alternatives to an HECM and the financial implications of assuming this responsibility. Compared to some predatory tactics that have earned reverse mortgages a less-than-stellar reputation, this approach appears to be in the best interest of consumers. 

Cons of a Home Equity Conversion Mortgage

• Higher Costs: Though interest on home equity conversion mortgages tends to be lower, HECMs often come with higher upfront costs –– including mortgage insurance premiums, origination fees, third-party charges, and a servicing fee. Mortgage insurance premiums alone are 2 percent of the mortgage balance, while origination fees can reach $6,000.⁶

• Complex Requirements: As mentioned above, the requirements for an HECM are the most robust of the 3 types of reverse mortgages. Most notably, potential borrowers must meet with a HUD-approved reverse mortgage counselor –– ensuring homeowners know what it is they’re signing on for exactly, in addition to some potential alternatives. This is meant to benefit consumers, but older adults in need of quick cash may see this added step as a drawback. 

• Loan Limits: An HECM reverse mortgage comes with loan limits, which place a cap on the amount of home equity homeowners can access. While this limit is higher than the average home value at just roughly $1,000,000, this limit can be a drawback for those with properties worth significantly more than this limit.

3. Proprietary Reverse Mortgage 

Technically, proprietary reverse mortgages are any type of reverse mortgage not backed or insured by the federal government. These loans are instead offered by commercial lenders, meaning they lack loan amount limits and, therefore, allow homeowners to access a larger chunk of their home equity. 

Pros of a Proprietary Reverse Mortgage

• Higher Loan Amounts: One of the biggest benefits of a proprietary reverse mortgage is that these loans have a higher borrowing limit of $4 million. For homeowners with higher-value homes, a proprietary reverse mortgage will likely be the better option than HECMs and other insured reverse mortgages. 

• No Mortgage Insurance Premiums: Whereas HECMs require mortgage insurance, which can incur hefty premiums, proprietary reverse mortgages do not. This can dramatically reduce the overall cost of the loan. 

• No Payout Limit Means Added Flexibility: Another significant advantage of proprietary reverse mortgages is their lack of payout limits. Other types of reverse mortgages set caps on the percentage of loan proceeds that can be accessed, while proprietary reverse mortgages allow homeowners to access these proceeds in their entirety.⁷

Cons of a Proprietary Reverse Mortgage

• No Federal Insurance: HECMs are considered a safer type of reverse mortgage because they’re government-insured, but proprietary reverse mortgages are not. While government involvement alone isn’t enough to protect consumers from the pitfalls of reverse mortgages, the added insulation that proprietary reverse mortgages lack –– like reverse mortgage counseling –– can be. 

• Potentially Elevated Interest Rates: Proprietary reverse mortgage lenders assume a bigger risk than HECMs. To compensate for the elevated exposure lenders are taking on, interest rates have a tendency to be on the higher side. This percentage may only be a point or two. But over the course of several years (or decades) and thousands of dollars in home equity, the impact can be seismic.  

• Reduced Consumer Protection: HECMs are subject to certain regulations which mandate that they look out for consumers. Proprietary reverse mortgages are not. With limited consumer protection available, the risk of taking on a proprietary reverse mortgage can be elevated. 

Truehold’s Sell and Stay Transaction: A More Predictable Path to Your Home Equity

Despite their reputation, reverse mortgages can be a great way to access home equity and find some added flexibility in retirement. And with government-backed reverse mortgages like HECMs available to homeowners, it’s clear that there are methods of accessing your home equity that can contradict the preconceived notion of reverse mortgages. Still, for the most predictable, straightforward, and flexible path to your home equity, Truehold’s sell and stay transaction may be the best option.  

Unlike reverse mortgages, which require repayment with interest, our sell and stay transaction allows you to access your home equity debt-free, with no strings attached. And since it functions as a sale, not a loan, there are no limits on the amount of equity you can access. You can continue living in your home as a renter and move out when you’re ready, with your equity in hand. 

Ready to learn more about our sell and stay transaction? Connect with a Truehold representative and get a cash offer on your home within 48 hours. 

Sources: 

1. Consumer Financial Protection Bureau. What is a reverse mortgage? https://www.consumerfinance.gov/ask-cfpb/what-is-a-reverse-mortgage-en-224/ 

2. Investopedia. Interest Rates for Reverse Mortgages. https://www.investopedia.com/interest-rates-reverse-mortgages-5224296 

3. Federal Trade Commission. Reverse Mortgages. https://consumer.ftc.gov/articles/reverse-mortgages 

4. Investopedia. The Downsides of a Reverse Mortgage. https://www.investopedia.com/financial-edge/0113/the-dangers-of-a-reverse-mortgage.aspx

5. Rocket Mortgage. Single-Purpose Reverse Mortgages: What You Need To Know. https://www.rocketmortgage.com/learn/single-purpose-reverse-mortgage

6. U.S. Department of Housing and Urban Development. Home Equity Conversion Mortgages for Seniors. https://www.hud.gov/program_offices/housing/sfh/hecm/hecmhome 

7. Finance of America. HECM Versus a Proprietary Reverse Mortgage. https://www.far.com/seniority/hecm-versus-a-proprietary-reverse-mortgage/