Understanding Home Equity: Line of Credit vs. Loan

Borrower or credit costs can be outrageous.

To go get a line of credit, you are usually paying upwards of prime plus 3% or even 5%. These lines of credit can be based on interest only or principle and interest payments. This kind of loan is based on how the lender views you as a risk. In other words, they look at the amount of money you are making and the amount of debt you have and then decide how much credit they are willing to give you. Usually, these loans are not very big as there is no security. And even though a lender considers your income vs your debt for a mortgage you will not get as much as you would get through a mortgage BECAUSE….

…a mortgage is based on securing a loan against a property. If you fail in making a mortgage payment and eventually go into foreclosure, the lender always has a property that they can sell in order to get their loan back. The lender looks at you as a risk, but they look at the property as a potential asset.

While the lender is taking advantage of your property by leveraging it against you as a risk, you also have the ability to do the same thing.

A great product that is available to owner-occupied properties is a Home Equity Line of Credit or HELOC as it is known in the banking world. A HELOC is a product that uses the equity that is built up in your owner occupied home and uses it as a line of credit, securing it against your property. The result is a line of credit with a very manageable interest rate that you can use toward anything you want. We recommend that you don’t use it for everyday expenses as that can get you into a lot of trouble. But there are strategies that you may want to consider such as:

a. That much needed home renovation

b. College tuition for your children or yourself!

c. If your income and debts are within lender guidelines, you may even be able to use your HELOC for a down payment on an investment property

d. So much more!

Generally speaking, you can borrow in a HELOC up to 80% of the appraised value of your property (minus your mortgage of course). This is considered a revolving loan where you can take or pay back cash as often as you want without having to reapply for a loan. But note that when you sell the property, your HELOC gets paid back with the proceeds of the sale (if necessary) and that line of credit is no longer available to you.

Make sure you don’t get a HELOC mixed up with a Home Equity Loan. This type of loan is based on a one time loan for a specific or one time occasion such as a vehicle. On this type of loan the rate and monthly payments are fixed and you pay it back on a scheduled payment plan, much like a mortgage. However, interest rates on these types of loan are generally a little higher than the HELOC loan.

In order to get a HELOC you will likely have to pay for an appraisal (around $250 – $300) and then the legal fees (around $500 – $750). However, you don’t have to pay any banking fees (like having a chequing account) as it is considered a revolving loan.

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