Reverse Mortgage Interest Rates
Reverse mortgage interest rates are one of the determinants of how much a borrower can qualify for. They should be understood to decide the reverse mortgage that is most advantageous for you.
How Reverse Mortgage Interest Rates Work
Reverse mortgage interest rates are charges on the funds received from the loan. The charges are calculated daily and added to the loan balance every month, and they are clearly indicated on the borrower’s monthly statement.
The surprising fact about reverse mortgages is that the interest payments on the loan are not made on a monthly basis, they are postponed to the end of the term of the loan. In other words, the interest rates are not paid in advance, out-of-pocket, or monthly. Although most loans require monthly payments to repay the loan balance and interest, reverse mortgages defer repayment of both the principal and interest to the time that the loan matures. Reverse mortgage loan can become mature if:
- The home is sold
- All the borrowers move out of the house or pass on
- The borrower fails to pay property taxes and insurance or adhere to all the terms of the loan
The Calculation of Reverse Mortgage Interest Rates
- Fixed rates are determined by investors and the HUD’s decided current lowest rate.
- Variable rates are divided into two parts- index and margin
- Index- This is a standard rate that changes based on the market interest rates. The lender cannot control it. An example of this is the LIBOR Index (London Interbank Offered Rate) which is the rate that banks charge to lend money to other banks. All reverse mortgages variables are dependent on LIBOR.
- Margin- This is the interest percentage that the lender adds to the index. It is not adjustable that is why it stays the same throughout the term of the loan, irrespective of the changes in the index.
Fixed Rate Reverse Mortgages
Borrowers like a fixed rate reverse mortgage because there is no risk of any increase in rates. They do not change throughout the term of the loan. Borrowers are, therefore, protected if the market rates increase. However, borrowers that select the fixed rate reverse mortgage are required to take their funds a lump sum, unlike other payment options offered at a variable rate.
Meanwhile, when taking a lump sum, the borrower who will not use it for a compulsory purpose like paying off an existing mortgage is limited to draw only up to 60% of the principal limit of the loan. If the mandatory obligation makes the 60% threshold to be exceeded, the borrower can access another 10%. However, the upfront mortgage insurance premium (MIP) will rise from .5% to 2.5%.
Consequently, fixed rate reverse mortgages are most suitable for borrowers who want to use up their loan funds at once for settling existing mortgage or other debts, or renovate the home.
Variable Rate Reverse Mortgages
Although this type of mortgages is not popular, it has a more flexible option. There are different disbursement options for the borrower to choose. The borrower can choose from a lump sum payment, monthly payments, a line of credit, or a combination of the three.
Interests are only charged on withdrawn funds. If a borrower has a line of credit that is rarely used, charges will only be on the amount withdrawn. Lines of credit not used can also grow with time giving the borrower more flexibility in the amount available to draw.
However, there is a greater risk if the interest rate rises quickly. But it is most suitable for borrowers who want to use their fund over time, and they can use it to increase their existing fixed income every month.
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