Two common avenues that homeowners often consider are reverse mortgages and home equity loans. Both these financial tools offer ways to access the value tied up in your home, but they come with distinct features, eligibility requirements, and potential implications.
In this blog, we’ll explore reverse mortgages and home equity loans, explaining what they are, who qualifies, and their pros and cons. By the end, you’ll have the info to pick the best fit for your financial goals.
Home Equity Loans in Canada
Home equity loans in Canada are valuable tools for homeowners. These loans use your home as collateral, letting you borrow based on your home’s equity. Imagine it as your home’s value minus what you owe. If your home’s worth $500,000 and you owe $300,000, you’ve got $200,000. As your home value rises and your mortgage shrinks, your savings grow.
Types of Home Equity Loans
When it comes to home equity loans, you’ve got three main options. Compare them to find the one that suits your finances best.
1. Home Equity Line of Credit (HELOC)
A HELOC provides access to a chunk of cash, typically 65% to 80% of your home’s appraised value minus your unpaid mortgage. You can use it for various needs with no strict guidelines. Your monthly payments depend on what you borrow and the current interest rate.
- With substantial home equity and a good credit score, you can apply through your bank.
- Borrow as needed, up to a pre-approved limit.
- Pay interest only on the money you take out, not the entire eligible amount.
- No pre-payment penalties.
- Some lenders charge an annual fee, even if you don’t use the HELOC.
- Lenders can change terms with little notice.
- Failing to repay the loan can result in foreclosure.
- Rising interest rates mean higher payments.
So, is a HELOC a second mortgage? It depends.
2. Second Mortgages
A second mortgage is an extra loan on your home from a different lender. It lets you use your home as security to access its equity. You’ll need to make payments on both the first and second mortgages. If you refinance, you’ll have just one mortgage and one payment to the same lender.
- Quick access to cash for various needs.
- Borrow up to 80% of the value of your home minus your primary mortgage amount.
- Usually, it is based on your home’s equity, not just your credit or income.
- Multiple second mortgage providers offer choices.
- Higher interest rates compared to first mortgages.
- Shorter repayment periods, potentially less than a year.
- Risk of foreclosure if you can’t repay.
- Various fees, including credit checks, appraisals, and origination fees.
3. Reverse mortgage
Reverse Mortgage Overview: A reverse mortgage lets homeowners borrow against their home’s equity while still owning and living in it. It’s a useful tool to boost retirement income by tapping into one of your biggest assets.
- You receive payments from the lender; no need to make monthly payments.
- Get funds as a lump sum or over time.
- You keep ownership of your home.
- No required regular payments of principal or interest.
- Borrowed money is tax-free.
- Doesn’t affect Old-Age Security (OAS) or Guaranteed Income Supplement (GIS) benefits.
- May limit your ability to take other loans with your home as collateral.
- Some fees and possible additional costs like appraisals and legal fees.
- Typically, higher interest rates than regular mortgages.
- Potential penalty for early loan repayment.
- Your estate must repay the loan and interest in full if you pass away within a set time.
The older you are and the higher your home’s value, the more retirement money you may get with a reverse mortgage. Market conditions also play a role in your eligibility.
How is a Reverse Mortgage different from a Home Equity Loan?
Reverse mortgages differ from home equity loans. They’re designed for seniors, with unique qualifications and repayment terms to safeguard them. Unlike home equity loans, reverse mortgages cater to specific needs and circumstances, offering a distinct way to access home equity.
Consider Getting a Reverse Mortgage if:
- You are a homeowner aged 55 or older.
- You need access to up to 55% of your home’s value without monthly payments.
- You are comfortable with potentially higher interest rates compared to regular mortgages.
- You are willing to cover administrative fees like an appraisal, title search, title insurance, and legal fees, etc.
Consider Getting a Home Equity Loan if:
- You want to access a line of credit secured against your home.
- You prefer the flexibility to borrow money as needed and repay it, similar to a regular line of credit.
- You are open to variable interest rates that fluctuate with market rates.
- You can handle administrative fees, including appraisal, title search, title insurance, and legal fees.
Choosing Between Reverse Mortgage Vs. Home Equity Loans
When deciding between a reverse mortgage, HELOC, or home equity loan, consider these key factors to make the right choice:
1. Your Age
Your age not only determines eligibility but also impacts the amount you can borrow. Older individuals can access more funds with a reverse mortgage, but taking one too early could lead to financial challenges.
2. Total Loan Costs
Compare upfront and ongoing fees. Each option may have origination fees, closing costs, and interest charges. Reverse mortgages come with an upfront mortgage insurance premium and ongoing fees, while HELOCs may have transaction or annual fees.
3. Use of Funds
Your purpose for accessing equity matters. Home equity loans or HELOCs used for home improvements offer tax-deductible interest, unlike reverse mortgages.
4. Amount Available
Different options provide varying borrowing limits based on your home’s value, equity, lender requirements, and fees. Compare the available funds for HELOCs, home equity loans, and reverse mortgages.
5. Payment Capability
Assess your ability to manage additional mortgage payments for home equity loans or HELOCs. Remember to cover property taxes, insurance, and maintenance to avoid losing your home.
6. Impact on Your Spouse
Consider how your decision affects your spouse. A Home Equity Conversion Mortgage may allow an eligible non-borrowing spouse to remain in the home without reverse loan payments after you pass away or move out.
Are Reverse Mortgages as Risky as Home Equity Loans?
In general, experts advise avoiding home equity loans due to their high risk, especially when used to pay off other debts like credit cards. When you use a home equity loan to settle credit card debt, your home is put up as collateral.
While credit card companies may threaten home seizure, your assets cannot be liquidated for debt repayment without a bankruptcy judgment.
Are Second Mortgage and Home Equity Loans the Same?
A home equity loan is a type of second mortgage. Second mortgages use your home’s equity, making them similar but differ from home equity lines of credit (HELOCs).
One big difference: Refinance swaps your mortgage for a bigger one. Second mortgage, smaller, for things like home upgrades or debt fix.
Learn How to Access Your Equity Wisely – Talk to Us!
When choosing between a Reverse Mortgage and a Home Equity Loan, think about your goals and situation. Both have pros and cons, so pick what suits you. Whether you’re a senior wanting monthly payment-free equity access or need a lump sum for urgent expenses, TurnedAway is here to help. Get in touch today.