Home Equity Financing Options

HELOC vs. HEL 

or 

"How are we going to pay for this new bathroom?"

If you were like me two years ago, when someone mentioned the term HELOC you probably assumed they were talking about some new super-villain that the Spider-Man movie franchise was going to bring out of obscurity to appease the comic fanboys.

In actual fact, it's an acronym used in mortgage financing. HELOC actually stands for Home Equity Line of Credit, which is quite different than it's other, equally popular cousin, HEL, or the Home Equity Loan option.

"Well, hey now", you might be saying, "that may sound relevant to my needs. Tell me more."

How I feel when someone introduces me as a mortgage broker...

And that's what I'm here for...


First, why would you want to pursue either of these options?

The primary reason is because you want to do some upgrades to your home but lack the disposable income to just throw a blizzard of cash at your chosen contractor or trades person.

Mike Holmes wasn't available so he sent his stand-in

The main thing you need in order to qualify for a HELOC or HEL is a house. Without some sort of residence (if you have a mortgage you should have a residence) there is no point in reading any further unless of course, you are just fascinated by the terms.  

So you do have a house. You've been keeping up to date on your mortgage payments. Perhaps you've decided to do some updates to your kitchen, maybe fix that drainage problem on the side or thinking of building that addition for your teenagers to live in until they can move out on their own. No matter what you are considering you find that the cost of doing such a project is prohibitive to your bank account in the short term.  

You've looked at those store credit options, feel that perhaps paying 0% interest for the first year only to be hit with 28% interest at the end of 12 months doesn't really sound like such a good deal, especially when you are already doubting your ability to pay off the $5000/$10,000/$20,000 within 12 months.

 Say hello to the HELOC and the HEL!

What your kids think a HELOC means...

Simply put the Home Equity Line of Credit and the Home Equity Loan are second loans on your home, after your mortgage.

A HEL is a lump payment - if you need $10,000 to update your kitchen, then the lender will cut you a cheque for $10,000 and there you go. You will have to make payments like any other loan but the benefit is it will be steady and consistent throughout the term of the loan. The interest rate is predominantly fixed. 

A HELOC is slightly different in the way that Venom is slightly different than Spider-Man (for you comic book fans still with me).  

A HELOC is money available to you, but not necessarily all immediately at your disposal. You make withdrawals on the HELOC depending on your need. Your monthly payments are the interest charged on the money you withdrawal. Most HELOCs have a fluctuating interest rate as the principal of the loan most likely also fluctuates depending on your need. It's a great safety net to have for unexpected expenses, plus the ability to repay it is substantially better as the amount owing won't necessarily be that large (depending on your needs).


How to get one;

Most lenders follow a pretty simple formula in qualifying you for a HELOC or HEL. Most will lend a certain percentage based on your home's worth - approximately 75-80% minus the amount still owing on your mortgage. For this, an appraisal is needed and depending on the lender, you may need to foot the bill for that. 

Here’s an example that assumes a lender will lend 75% of your home’s value:
Current home value: $400,000
75% of current value: $300,000
Size of your mortgage: $250,000
Amount lent to you: $50,000

That finally number ($50,000) and how you decide to receive it and repay it is ultimately up to you (with some advice from your friendly neighbourhood mortgage broker).  

Advantages

Both these financing options are quite easy to apply for as the amount requested will never be larger than your mortgage.  Generally all that is required is the appraisal of your home and verification of your current income. 

HELOC's also count towards your credit score, so if you keep up with your payments it reflects positively on your credit record. 

And when you get down to it, would you rather start paying off a loan now at 4% interest or wait 12 months to start paying off a loan at 28% interest?  

HULK WAIT 1 YEAR. WHERE HULK MONEY? 

Disadvantages

Because the possible amount you could receive depends on your appraisal minus the size of your mortgage, the more recent your home purchase, the less funds you are likely to have available.  Your mortgage to appraisal ratio may still be quite high, leaving you little equity in your home to draw funds on. 

There most likely be costs involved on securing a HELOC or a HEL; it depends on the lender. Again, your mortgage broker can help you with those specifics.

And lastly, as is standard, the worth of your home is always subjective to the trends of real estate. While it is possible some lenders may lend up to 125% of your home's equity, it's not a very safe bet as a consumer. If your local market goes down, you may find that the $20,000 you invested in your place doesn't increase the overall value $20,000 and instead when it comes to selling your home, you could still be owing money after the original mortgage is paid out.



Next column; What NOT to spend HELOC or HELs on - or - the worst return on home improvement investments.