Home Equity Line of Credit (HELOC) is a great way to put your home equity to work. What I mean by saying this is to utilize the available equity to invest and essentially increase your net worth. I personally against the idea of using HELOC to pay for home renovation or repairs. Before we move forward, you may want to know about these facts:
- HELOC has variable interest rates (this can be dangerous at times, but with proper calculation and buffers, you should be fine).
- Typically, HELOC allows you to access the funds within 10 years of account opening.
- HELOC has a minimum payment of 1% of the outstanding balance (depending on the lender)
- After 10 years, any outstanding balances will be amortized over 20 years (depending on the terms).
- Pay as you use interest. If you don’t use any of the HELOC funds, you do not pay any interest. This is one of the advantage of HELOC when compared to home equity loan.
Based on the above, obviously there are some risks involved if we are using HELOC funds to work. The interest is variable, and the 20 years amortization can be a surprise to anyone. Lastly, HELOC is tied to your home!. If you don’t pay it back, you will lose your home.
Even with the above risks, I had a great experience utilizing HELOC on my primary home to increase my net worth. So, let’s get started:
Know Your Home’s Market Value
This is a crucial step. One of the easy way is to look at Zillow, Redfin, or similar sites. If you want to take it a step further, you can do your own research and figure out how much the recent sales in your neighborhood.
The reason I want you to do this is because it will save you a lot of time to determine whether it is worth investing using HELOC. Typical lenders will allow you to open a HELOC account with 75%-80% Loan-To-Value (LTV) minus your outstanding mortgage balance.
For example, if your home is value $100,000 and you have a $50,000 mortgage balance, then your HELOC limit will be:
(80% x $100,000) – $50,000 = $30,000 line of credit limit
What can you do with $30,000? In my area, it definitely worth nothing. I can’t even use it as a down payment for a small studio condo. But, if you are living in a much cheaper area, $30,000 might go a long way.
Shop For HELOC Lenders
Majority of banks offer HELOC. Shop around and compare the rates, fees, and any other terms. Since HELOC rates are variable, you may want to find something that gives you interest rate cap. You don’t want something that charges you unlimited interest rates. It’s a deal-breaker.
How I Used My HELOC
I was lucky to be able to pull about $80,000 in HELOC. I used it as a down payment for a Duplex about 2 hours away from me. That $80,000 was enough to cover 25% down payment and closing costs.
I did a lot of research about the area including rental income potentials. I made sure that my mortgage payment (including property taxes) and expenses are less than the rental income that I will be getting. I made sure I have positive cash flow to pay back the HELOC.
In my situation, I was able to collect about $600 in profit every month which I used to pay back the HELOC. Now, the HELOC minimum payment was $800. I decided to cover the $200 short out of my own pocket, which is fine with me because the $200 is actually putting back my own equity. All other interests (Mortgage and HELOC interests) are covered with the rent money.
Two years later, I sold the Duplex for a profit. Paid back my HELOC and still came out with a nice profit of about $40,000 plus I was able to get a nice tax deduction for 2 years.
Keep in mind, I was able to dodge the HELOC interest at 0% for abour 15-18 months. This contributes a lot to my profit. The profit is of course taxable unless you choose to reinvest in another property (1031 exchange), which I did. I will post the details on this at another time. Feel-free to leave any comments below. Thanks!