Have you ever wondered why people call it a reverse mortgage? The term "reverse mortgage" aptly describes the reversal of the traditional mortgage process. Instead of paying the lender, you receive payments, turning your equity into a practical, usable asset. This shift not only alters the flow of funds but also opens up new possibilities for managing your finances in retirement. It is that simple but let me explain further. First, the true name of a reverse mortgage is a Home Equity Conversion Mortgage (HECM). That’s right, a home equity conversion mortgage. So, what does that mean anyway? Well, it is a mortgage that allows you to convert equity in your home to income or cash or both!
So, let’s break it down a little bit. When you buy a house, you put money (cash) into the house as your down payment and that cash is now part of your equity in your home. As you make monthly mortgage payments, part of your payment each month is allocated to the principal, and part is interest (unless you have an interest only loan which means you are not paying the loan down at all). The interest portion of your payment is the cost you are paying to borrow money and the interest goes to the lender. The principal portion is what pays the loan down and ultimately goes to create equity in your home. As you make monthly payments, you continue to take cash out of your pocket and that cash becomes equity in your home. So, the longer you make mortgage payments, the more cash you are talking out of your pocket or your savings, and the more equity you are creating in your home.
Overall, purchasing a home is a fantastic thing to do, not just to have a home to live in and to create security for your family but it is also a great investment as well. Home values have historically appreciated by around 4% each year (this is the national average) and as your home value goes up, this is another way you can create more equity as well. There is one major challenge, however. That is, equity is not usable, it is not liquid, you cannot spend it. Try taking the chandelier off your ceiling to buy groceries or taking your front door to the gas station to buy gas…it just does not work. Generally, equity is trapped in your home until you sell your house or take a mortgage (or equity loan) against your home equity. The challenge with doing that, however, is that you must pay it back!
This is where the home equity conversion mortgage (HECM) comes into play and ultimately where the term reverse mortgage comes from. A HECM allows a homeowner to “reverse” the flow of money. Once a homeowner has accumulated enough equity in their home, this mortgage allows you to stop making monthly mortgage payments of principal and interest and allows you to reverse the process, ultimately converting your equity back to cash. This is truly the only (and best) option for getting access to your home equity without selling your home and without incurring a monthly mortgage payment. The best part of all is that you can use the equity for anything you want and without having to pay any income taxes on the money.
Why consider a reverse mortgage? For many seniors, it offers a pathway to financial flexibility and independence. Imagine enhancing your lifestyle, covering unforeseen expenses, or simply enjoying the peace of mind that comes with financial stability—all without selling your cherished home or incurring a monthly liability.
