[Disclaimer]

For reverse mortgage loans:

The borrower must meet all loan obligations, including living in the property as the principal residence and paying property charges, including property taxes, fees, hazard insurance. The borrower must maintain the home. If the homeowner does not meet these loan obligations, then the loan will need to be repaid.

How Do Reverse Mortgage Interest Rates Work?

If you already have a traditional first mortgage, you may have a general idea of how interest rates work. However, there are some key differences in interest and repayments that are unique to reverse mortgage loans.

This article explains how Home Equity Conversion Mortgage (HECM) interest rates work. It does not cover proprietary reverse mortgages, which are private loans that are not FHA-insured.

What are interest rates?

Interest rates are the cost of borrowing money, shown as a percentage. The rate tells you how much you will owe in addition to the loan principal (the original amount you borrow).

In a traditional mortgage, interest is calculated monthly, and your monthly payments cover both the loan principal and interest. As you gradually pay down the principal, that balance decreases. Since interest is calculated as a percentage of the remaining balance, the interest portion shrinks each month. These loans usually have a set end date, or term.

How interest works in a reverse mortgage

With a reverse mortgage, you are not required to make monthly payments on the loan balance. Instead, interest builds up (accrues) over time and is added to the loan balance, but the loan does not become due and payable unless you no longer use the home as your primary residence, pass away, or fail to uphold the terms of the loan.

Fixed vs. variable interest rates

Depending on the loan terms, reverse mortgages can have either a fixed interest rate or a variable interest rate.

Fixed rate: The interest rate is set when you close the loan and remains the same for the life of the loan. With this option, you must take the proceeds as a lump sum at closing. Fixed-rate reverse mortgages could be a good option for borrowers who need a one-time payout to cover a large expense.

Variable rate: The interest rate can change over time. Variable rate loans may give you more flexibility in payout options, depending on the terms of the loan. Those options could include taking the money as a lump sum, monthly payouts, a line of credit, or a combination.

How the 60% utilization rule affects borrowers

All HECM loans follow a first-year disbursement limit, called the 60% utilization rule. This means that in the first 12 months, you can take out whichever is greater:

• Up to 60% of your principal limit, OR
• Enough to cover your mandatory obligations (like paying off an existing mortgage), plus up to 10% of the principal limit

For fixed-rate HECMs, you must take all your funds as a lump sum at closing, and the first-year limit still applies.

For variable-rate HECMs, you have more flexibility. You can choose a lump sum, monthly payments, a line of credit, or a combination. Interest is only charged on the money you use, so no interest is added on funds left in your line of credit.

How interest accrues over time

Reverse mortgages add interest to any money you borrow or that is used to pay fees like mortgage insurance. No interest is charged on unused line of credit funds until you take them out.

For variable-rate loans, two rates matter:

• Expected rate: This is a long-term average rate used to determine how much of your home value you can borrow. This rate is used for calculations only.
• Initial rate: This is your starting interest rate at closing. It may change over time depending on the market.

You will get monthly statements showing how your loan balance grows, including interest, fees, and other charges. Even if your loan balance exceeds your home’s value, neither you nor your estate will owe more than the home is worth because a HECM is a non-recourse loan.

A non-recourse reverse mortgage transaction limits the homeowner’s liability to the proceeds of the sale of the home (or any lesser amount specified in the credit obligation). Non-recourse means that you, or your estate, can’t owe more than the value of your home when the loan becomes due and the home is sold. This also means that if you default on the loan, or if the loan cannot otherwise be repaid, the lender cannot look to your other assets (or your estate’s assets) to meet the outstanding balance on your loan.

Final thoughts

Fixed-rate loans may be the preferred option for borrowers with one-time needs, but variable-rate loans could offer more flexibility. Reverse mortgage interest rates are just one of many factors you should consider before moving forward with the application process.

Before getting a reverse mortgage, all borrowers must meet with a HUD-approved third-party counselor. The counselor will explain the loan details and answer any questions. We also recommend speaking with a qualified financial advisor to help you make an informed choice.

[Disclaimers]

This article is intended for general informational and educational purposes only and should not be construed as financial or tax advice. For more information about whether a reverse mortgage may be right for you, you should consult an independent financial advisor. For tax advice, please consult a tax professional.