When we buy property, we expect the value of that property to increase over time. This increase in value versus the amount owed on the mortgage is referred to as equity or home equity.
Home equity is the difference between the re-sale value and the mortgage value of your property.
For instance, if you took out a mortgage 10 years ago and paid $250,000 for it, it would have likely grown in value over the last decade. If your property is now worth $300,000 today, the equity would be $50,000 plus whatever you’ve paid down against the principle of the mortgage.
If over the ten years you had paid off the mortgage in its entirety, the equity would be $300,000 today, or the entire value of the property.
The Genesis of the HELOC
Many people will come up against expenses in life where they might face difficulty in accessing the funds required. For example, a necessary renovation, or emergency vehicle repair, or medical expense.
For such financial pressures, you are able to borrow against the equity you have in your home. Doing this is available as a financial product called a HELOC, or home equity line of credit.
I think that might require a little bit of a deep dive, don’t you? Here we go:
What is a HELOC?
A home equity line of credit (HELOC) is a secured loan against the value of your home. Morgix Mortgage Solutions provides HELOC loans as one of their primary financial products to help people across Canada.
A HELOC gives you the ability to release some of the increased value of your home or equity in the form of cash whilst your home is used as collateral against default.
In other words, you are borrowing back the money you’ve paid down on the mortgage plus the presumed increase in the home’s value… And if you have any issues paying back those funds, the home is used to pay it back (hopefully that never needs to happen!).
It is a revolving line of credit, similar to a credit card but without the high-interest rates (The difference in interest rates is one of the prime drivers for why people choose HELOCs instead of adding to burdensome credit card debt).
Please note that the outstanding balance of a mortgage is considered when lenders decide how much equity you can release.
Why apply for HELOC?
A HELOC is a readily available source of funds that you can use for major expenses such as college tuition, a child’s wedding, a new car or as an emergency fund for those unexpected turns that life often throws at us.
It has lower interest rates than a normal loan or credit card making it a very attractive form of borrowing for homeowners. An additional benefit is that the money does not have to be used on home improvements or renovations on the property, unlike a home equity loan.
How does a HELOC work?
A HELOC allows you to release equity from your home in the form of a line of credit that permits you to borrow what you want, when you want it over a period of time up to the credit limit.
Other types of loans give you an upfront lump sum advance of the entire amount which incurs interest from the moment you receive it.
With a home equity line of credit, you only pay interest on the amount you withdraw, and you can withdraw several times in a similar way to a credit card.
The period during which you can withdraw funds is known as the “withdraw period” and could be any length from 5 to 30 years. After the withdraw period, the principal or total amount borrowed plus interest is due either as a lump-sum payment or in line with an agreed repayment schedule.
The repayment schedule varies, depending on the terms and conditions of the HELOC.
How is this different from a home equity loan?
A HELOC and a home equity loan are similar in the sense that both are loans made available from the equity released from the value of your home.
However, with a home equity loan you are obligated to make monthly payments over a fixed term at a higher rate of interest than a HELOC.
Although interest rates are normally fixed, rates can also be variable. It is like taking out a second mortgage. Usually, lenders expect any equity release to be spent on home renovations or improvements.
A home equity line of credit operates more like a credit card with the amount of equity release being the credit card limit. You do not need to use all the available funds upfront. Instead you withdraw as and when you need to and only pay interest on the amount used.
The interest rate is comparatively low compared to a home equity loan and a credit card. Although you can pay off only the interest on a monthly basis, you can also pay off some of the initial loan or principal as too.
Examples of a HELOC
Who doesn’t love a real-world example?
So how does this work in practice?
Let’s say that you bought your home 25 years ago for $150,000. A quarter of a century later, the current market rate for your home is now $600,000. You have paid $135,000 of your mortgage to date and therefore only have $15,000 to pay it off in its entirety.
However, your eldest daughter is getting married and you would like to contribute $25,000 towards the wedding but with an outstanding mortgage and the usual bills, it seems like an impossibility (and we never thought little Judy would grow up!).
This is where a HELOC comes in handy. You could apply for a HELOC based on your home equity. In this example, your home equity would be calculated as the current value less the amount outstanding on your mortgage which in this case would be $585,000.
Depending on the lender, you could apply for a line of credit off up to 65% to 80% of the equity value, as most lenders will not lend the full amount to limit their exposure to risk.
In our example, we’ll assume the you can apply for a line of credit for up to 80%, which would be $468,000. Obviously, you don’t want to spend ALL of this on the wedding, but you would be able to apply for $25,000 and arrange to pay either only the interest or interest plus principal, over a minimum of 5 years afterwards.
You will only be charged interest on the amount you spend and not all of the $25,000 but have the flexibility of using the balance as and when you want, up to the agreed payment term. This operates very similar to a credit card with the difference being the low interest rate.
How to apply for a HELOC
In order to apply for a HELOC, you will need to provide proof of your home equity by having an appraisal conducted on the value of your home by a professional surveyor, have proof of employment including your income, expenses and any outstanding debt as well as a credible credit history.
Sometimes you can expedite the process if the lender does a local real estate sales analysis to determine the approximate value of your home…
Your home is likely to be the biggest and most valuable asset you own. Like many people, you have worked hard to buy and keep up payments all your working life.
Why not reward yourself and let your property work hard for you?
Contact Morgix Mortgage Solutions in the GTA and across Canada for a free appraisal and we will provide some budget-friendly options for you to consider.
Morgix Mortgage Solutions
18075 Leslie St. Newmarket ON L3Y 8Z9