Reverse mortgages can be an excellent strategy to help you manage finances and wealth when you reach retirement age. The most common type of reverse mortgage is the Home Equity Conversion Mortgage, a government-backed loan that is designed specifically to allow seniors access to the equity built up in their property without facing the risk of losing their homes.

Essentially, a reverse mortgage gets its name because the homeowner takes out a loan, but instead of making payments on the loan, the bank makes payments to the borrower. The owner of the property does not have to pay the loan back until he or she either sells the house, moves out of the house, or passes away. At that point, the loan comes due. Most heirs choose to sell the home, using the proceeds to pay off the mortgage, though some choose to refinance into a traditional mortgage so that they can keep the house. Anything left over after the mortgage is paid becomes part of the estate. Because the reverse mortgage is insured, there can never be more owed than the house is worth. If the house sells for less than the amount of money lent out during the term of the reverse mortgage, the insurance will pay the difference.

In traditional mortgages, the interest rate is one of the main determining factors of the overall cost of the loan. A lower interest rate means that it costs you less to pay off the loan, and it may mean a lower monthly payment. In the case of reverse mortgages, though, things work a little bit differently.

Interest Rate is a Factor in Determining the Amount of a Reverse Mortgage Loan

There are three major factors that help the bank or lender determine how much money you can borrow under a reverse mortgage agreement. They are:

1 the age of the homeowner(s)

2 the amount of equity the owner has in the house

3 the current interest rates when the mortgage is made

Homeowners must be at least 62 years old to qualify for a reverse mortgage. If the home is owned jointly with someone else, the youngest person on the lease must be at least 62 years old. The younger homeowner will be the one on which all calculations are based. Generally, at 62 a homeowner can borrow up to 50% of their equity in the home. The percentage increases with more years, so if you wait until you’re 75, you’ll be able to borrow a higher percentage of the equity that you have in your home.

The interest rate also is part of the calculation that determines how much cash is available to you. In general, the lower the interest rate is at the time you take out the loan, the more money you will be able to access.

Adjustable vs. Fixed Interest Rates in a Reverse Mortgage Loan

Like any other mortgage, reverse mortgages can carry either a fixed or an adjustable rate. The adjustable rate may be adjusted annually, or on a month to month basis. Each month, the interest accrued is added to the balance due on the mortgage when payment time rolls around. When you choose a fixed rate mortgage, you will know exactly how much the mortgage will cost you over its life. Adjustable rate mortgages often carry lower interest rates, but the tradeoff is a bit of risk, since the mortgage interest rate can go up or down over the life of the loan, you could end up with less equity in your home at the end of the mortgage period than you expected.

Annually adjusted adjustable rate mortgages are not quite as risky as they seem at first glance because there is a cap on the adjustments that can be made. In a HUD reversible mortgage with an annual adjustment rate, the rate can only be adjusted 2% at any time, and a total of 5% over the life of the entire mortgage. The lowest adjustable rate reversible mortgage rates will be for those that adjust the rates monthly. There is no cap on monthly adjustable rate mortgages.

If you are considering a reversible mortgage to give you regular cash flow throughout your retirement years or to get you through unexpected expenses, it is important to understand how the interest rates and type of mortgage rate that you choose will affect your mortgage. Take the time to sit down with a financial consultant to study the effects of each type of mortgage on your overall financial picture before making a final decision. That way you can be sure that no matter which decision you make, it will be the best decision for your specific situation.