Your home's hidden treasure
Buying a house has long been considered the American dream. And today, homeowners are finding meaningful value by using the equity in that dream to help finance other needs in the form of college tuition, consolidating debt or remodeling a kitchen.
Home equity lines of credit (HELOC) are a way of establishing and utilizing a line of credit by using the equity in the home as collateral. With today’s low interest rates and rebound in home prices, homeowners may have greater opportunity to borrow against their equity.
Another notable advantage with a home equity line is making purchases with a HELOC debit card. Using the card enhances the ease of paying for unexpected and needed purchases by providing a type of rainy day fund. Nobody plans for the furnace to break in the middle of winter, but it does happen. There is also a flexibility factor – the home equity line is something that can be accessed over and over as long as the credit is available.
Before making a decision, however, consumers should carefully consider all options. Ideally, since a home is likely to be one of the largest assets, a home equity line should be used wisely. Remember to be disciplined with spending habits. If an individual needs to use their home’s equity for purchases, he or she should use it for items that will retain or add value.
Here are a few options to consider in utilizing a HELOC:
Home Improvement: This is one of the most common, and wisest, uses of home equity lines. Whether it is updating the bathroom or adding more space to accommodate a growing family, making upgrades or improvements to a home can increase the fair market value. Kitchen improvements have the most value, returning 94 percent of the original investment.
College Tuition: A home equity line can be an excellent alternative to standard student loans based on lower rate, potential deductibility of interest and flexible payment options. It’s very easy to pay for the college tuition with these devices. If families cannot qualify for student loan programs because of their economic status, a home equity line is a viable choice and has similar benefits with low interest rates and tax-deductible options.
Debt Consolidation: An overwhelming majority of homeowners use a home equity line of credit for this purpose. The advantage is that it creates one payment to take care of all credit card debt, which in turn reduces the monthly interest charges, allowing the consumer to save or invest those dollars in other areas. By paying off credit card debt in this manner, the consumer can literally save thousands of dollars.
For example, the current national average interest rate for credit cards is about 15 percent. If the credit card debt was $20,000, the consumer is paying about $3,000 per year in interest. A home equity line of credit at 4 percent (not even calculating the effect of the introductory rate) would be $800. The consumer’s payments would immediately be impacted, more dollars would apply to principal, and all interest may be tax deductible. The result—more dollars left for the consumer. Even in that scenario, it is virtually impossible for the interest to exceed the level of credit card interest – which often times is two-to-three times higher than the rates on a home equity line.
A word of caution, however, when using home equity for debt consolidation. Consumers need to be careful to not fall into a downward spiral of continuing to accumulate charges and debt with their credit card after they have consolidated original debt with a home equity line.
Finally, before deciding to use the equity in a home as a financing option, individuals should seek counsel from their banker or financial advisor. This person is experienced in carefully reviewing all the home equity options to ensure it is the appropriate financial solution and that it is being activated in the most responsible and strategic way possible.
(Watch a video featuring Eric Craine.)