December 01, 2022
With investment portfolio values down and the price of everything up, I am not surprised that homeowners are increasingly turning to home equity loans (HELs) and home equity lines of credit (HELOCs). TransUnion reports that the number of new HELs rose nearly 30% over the past 12 months, and HELOC originations grew more than 40%.
Not surprised, but very concerned.
Your Home is Not an ATM
When you have 20% or more equity in your home and a solid credit profile, you may be able to qualify for a HEL or HELOC, which either gives you a lump sum (a HEL) or a revolving line of credit (HELOC) to use for whatever you want.
While home values have fallen back a bit recently as mortgage rates have risen, many homeowners still have a big cushion of equity they can borrow against. An industry report notes that the average homeowner has nearly $100,000 more home equity than they did at the beginning of the pandemic.
Please be very, very careful if you are considering borrowing against the equity in your home. It is very risky. The one thing I need you to understand is that your home is the collateral for a HEL and HELOC. If for some reason you can’t keep up with the repayment of the loan or line, you are at risk of losing your home.
That makes it insane, in my opinion, to use a HEL or a HELOC for “wants” such as a fancy new car, or a big vacation. And for the parents out there who are thinking they will tap some home equity to pay college bills, I want to advise a rethink. If you are not entirely confident in your retirement security, any borrowing of any kind for college is not wise. Your family goal should be for the kid to attend an affordable college (one that offers the lowest net price) and for you to hold on to all the assets (your home equity) to build more security for retirement.
Be Rate Smart
A HEL is a fixed-rate loan that pays you a lump sum which you agree to pay back in a fixed period of monthly payments, typically over 10 or more years. A HELOC is a line of credit that you can draw against for a set period (10 years is common) and then you have another 10 years to pay back any unpaid balance that you have once the draw ends.
The risk with HELOCs is that they can have an adjustable interest rate. If you expect to pay off your “draw” within a few months, and you are comfortable with where rates are at when you use the money, that may be okay. But if you don’t expect to pay off the balance for years, you are gambling on that balance being charged higher interest over time. If you like the idea of a HELOC, I recommend you investigate a fixed-rate HELOC, rather than an adjustable rate.