Home Equity Loans Vs. Reverse Mortgages: Why The Two Are Commonly Confused

Home equity loans and reverse mortgages share some similar features. This is why they are commonly confused when someone tries to explain what a reverse mortgage is and the listener ends up thinking that the speaker was talking about home equity. Sometimes it helps to show a written explanation for a side-by-side comparison so that older homeowners, such as yourself, understand what their options are for getting cash out of their homes.

Home Equity Loans

Home equity is the value you have in your home after you have paid off a large part of the principal mortgage. For example, if you took out a home loan for $100,000 and it took you twenty years to pay the accrued interest and some of the principal off so that you now have $20,000 less than the original loan amount (i.e., you still owe $80,000), that $20,000 is your equity amount. You can borrow up to this amount IF you have good credit and an excellent repayment history on your mortgage and other bills. 

Other equity that might be considered for a home equity loan is sweat equity. This is equity you garnered by putting in several hours' work on your own home, whether building it from the ground up or doing most of the major remodeling projects. You need to properly document your sweat equity hours and provide this proof before you can apply for an equity loan. The best part of this is that almost anyone that owns a home and has some equity in it can apply for home equity loans.

Reverse Mortgages

Reverse mortgages ARE home equity mortgages, except that you do not repay them on a monthly basis. Instead, you can let the reverse mortgage go unpaid until you sell the house or you die, whichever comes first. If you are the co-owner on the house, the reverse mortgage has to be in both of your names, but then the surviving co-owner/spouse does not have to pay on the reverse mortgage either. Interest does accumulate on the reverse mortgage, so while you do not have to make monthly payments, it is actually a good option to begin repaying it back as soon as you are able.

The downside to reverse mortgages is that only people aged 62 or older can apply. There has to be some equity in the house too, otherwise a reverse mortgage is just not possible. In some states, the heirs may have to repay the reverse mortgage on the property after their parents pass away and the home passes to the heirs.