Use your home equity for renos, not as an ATM

Posted by Justin Havre on Monday, May 29th, 2017 at 4:38pm.

The nicer weather in Edmonton makes it easier to renovate your home.  No worries about insulation, swapping out windows, leaving the door open and venting those paint fumes.  Edmontonians are reveling in home renos and using the equity in their homes as probably the cheapest way to borrow money to do it.

Hello HELOC 

A cute anacronym – HELOC – which stands for Home Equity Line of Credit.  It’s an interesting thing because the equity in your home is kind of yours and it kind of isn’t.  You’re borrowing money from the bank but you’re sort of borrowing your money.  Yet you must pay interest on it.  It’s actually the preferred way by countless Canadians home owners to pay for those big-ticket home reno projects and for good reason.  It can be the quickest way to get your hands on a large amount of cash, depending on how much equity you have in your home.  And let’s face it – totally re-doing your floor plan, or installing a luxury kitchen or spa bathroom, perhaps converting your single car garage to a double or triple with a suite above – takes a big chunk of dough.

Easy to Get Approved

Because the bank knows that your home is security for a loan, it’s willing to loan you the money more easily and it will happily provide it at lower interest rates than you would get elsewhere.  The interest rates are a wee bit higher than what you’re paying on your mortgage, but still preferable to say an unsecured line of credit. Your home is collateral.   Usually they’ll send a specialist out to do an appraisal of your home and will grant you about 60% of the equity in your home, just to be on the safe side.  The usual credit checks will apply and they will still look at your total debt load.

More Credit than You Need

As mentioned, they’ll usually grant you a line of credit somewhere in the range of 60% of what equity you have in your home.  That may be way more funds than you require for your kitchen reno or other reno projects.  It’s good to have for emergencies.  In fact, Canada Mortgage and Housing Corp (CMHC) believes than 25% of Canadians home owners have taken out HELOCs and 33% of those people use them for renovations.

Financial experts will almost always recommend HELOCs as the most beneficial way to borrow funds, but we’re about to take the shine off the apple by pointing out the down side.

What Could Go Wrong?  How about Fluctuating Interest Rates?

Ah yes, variable interest rates which most of these lines of credits offer. They are connected to whatever is happening in the economy.  They’ve been low – like super low- for at least eight years.  Will that change anytime soon?  Economist have been warning for a long time that interest rates will start to rise – we’ve yet to see it happen.  But a select few have been saying that in 2018 the Bank of Canada will start raising those rates especially when the U.S. and Canadian economies continue to improve.  For those who have dipped heavily into their equity, the rise of even a few points may have a detrimental effect upon people’s ability to pay back their HELOC or even to maintain the monthly interest payments.

A difference of one percentage point – from 3% to 4% could hike payments by 33%.  Could the average Canadian absorb an increase of 33% on a loan payment?  It could be highly problematic for borrowers who are already stretched beyond their means.  Five years from now – in 2022, the interest rate on a HELOC could be at 6%.   Canadians maybe should do some math, or when they investigate getting a HELOC, look at a fixed rate instead of a variable rate if it’s offered.

Don’t Max It Out

Getting your hands on cash that is nearly-rightfully yours is tempting but don’t spend all of it and don’t plan a reno that will run up the bill.   Always add a percentage onto your reno budget to plan for the unexpected.  It may be tempting if home prices in Edmonton start rising again.  With higher values comes the opportunity to increase your HELOC.  But this equity source is not an ATM.   When it comes time to sell your house, all your money might end up with the bank and you’ll have nothing to show for all your hard work when it’s all said and done.

 

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