There are very few restrictions or limitations on a HECM (Home Equity Conversion Mortgage), which is a loan program that is also known as a reverse mortgage. However, there is one element of the HECM that does limit how much money you can take out at closing and for the 1st year after closing. Let me explain.
HUD (Housing Urban Development) has a restriction that does not allow homeowners to take out 100% of the available funds from a HECM, unless it is for the purpose of purchasing a home or for the purpose of paying off liens on the property. This is known as the 60% rule which limits the homeowner to accessing 60% of the initial Principal Limit (this is also known as the amount that you can borrow), or 10% above the mandatory obligations (this is a combination of mortgage balances/ liens and closing costs).
The 60% first-year limit on funds from a HECM is a critical safeguard implemented within the lending framework to ensure responsible utilization of home equity. This regulatory measure, mandated by HUD, serves as a protective mechanism for borrowers, preventing them from rapidly depleting their accumulated home equity. By restricting the initial disbursement to no more than 60% of the total eligible amount, borrowers are encouraged to exercise prudence and consider the long-term implications of their financial decisions. This limitation not only mitigates the risk of borrowers exhausting their home equity prematurely but also fosters a more sustainable approach to utilizing HECM proceeds, promoting greater financial security and stability in the later stages of homeownership.
So, let's break this down in an example. If you own your home free and clear and you do not have a mortgage, you will only be able to access 60% of the initial principal limit when you close your HECM and for the next 12 months. After 12 months, there are NO restrictions on using the funds. For example, if you can borrow $400K (this is called your Principal Limit), you will be limited to the first $240K of the HECM at closing and for the first year after closing. The remaining $160K are your funds and will continue to grow in your Line of Credit (LOC), but you cannot access these funds until 365 days have passed since your HECM closing.
Due to this restriction, it is advantageous and recommended to get a HECM before you “need” it. This allows you to start that 1-year clock sooner and allows your available funds in the LOC to grow and grow. This also helps to ensure that when you need the money or you want access to the money, you will have access to 100% of the funds and you will not have to wait a year.
Alternatively, if you owe more than $240K in this example, you are allowed to borrow more than 60% to pay off all liens on the property and to pay for the upfront closing costs. Plus, you can also take out an additional 10% of the principal limit (that is another $40K in this example).
Lastly, if you are purchasing a home using a HECM, you are allowed to use 100% of the initial Principal Limit at closing. So, assuming the client can qualify for a $400K HECM to purchase a new primary residence, the client can once again use 100% of the $400K at closing to purchase this new home.
It is important to understand that there are both fixed rate and adjustable-rate options with the HECM loan program. However, this rule only applies to the adjustable-rate option. Under the fixed rate option, you are required to take all the available funds at closing, and you cannot access additional funds in the future. In some cases, the available funds are typically less with a fixed rate as well which is why almost all HECMs use the adjustable-rate option today.
