Most People Have the Wrong Types of HELOC and They Don’t Know It

Home-Equity-Loan

Most people have a HELOC that may be causing them to lose opportunities, costing them time or money and are oblivious to it.

So, you have a house with equity and you want to access that equity. The best thing that you can do is to get a home-equity line of credit (HELOC). Although you can receive conventional financing up to 80% of the property’s value (currently in Canada), the HELOC portion limit is limited to 65% of the value of the property.  Yes, you can only access up to 65% as a credit line portion of your entire mortgage.  You can get this anywhere. In fact, most lenders offer this type of product. So why not just go anywhere to get it?

In life, nothing is created equal and not every financial institution has an identical product (of another). Even a simple product such as the home equity line of credit.

The sad reality is that the average consumer isn’t aware of this. Even most mortgage brokers and financial planners don’t even know this.

Why is that you may ask? WHY is the answer. Are you confused yet?

Let me explain.

Most people go to the lender to get the HELOC and never ask the right question.

The advisor or banker never asks the client the right question either.

Here’s how the interaction usually takes place:
Banker/advisor: What can I help you with today?
Client: I would like a HELOC.
Banker: Okay, let’s get started.

Sadly, this is how most of the LOC/HELOC are started.

Now, if the client had been asked WHY they need it and how they like to use the money now and in the future. A more comprehensive type of HELOC would have been gained instead of one that acts just like a lower interest personal line of credit.

Tony Robbins said it best, “Successful people ask better questions…and as a result they get better answers.”

By asking better question, it opens up more possibility and clarity on the purpose of the HELOC and therefore you will get a proper product that is suitable to you now and in the future.

Why is that important?

Well, not all HELOC’s work the same way and have the same features/benefits.

Let me explain and then you will understand why most people may have the wrong type of HELOC.

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There are 3 main types of HELOC that is available out there:

  1. Standard HELOC
  2. Re-Advance-able HELOC (great for Smith Maneuver)
  3. ALL in One HELOC

Each have their advantages and disadvantages.

  1. The Standard HELOCis what most people tend to get. It is vanilla product which behaves the same way as a personal line of credit. No bells or whistle except lower interest. When you use up the limit, that’s all you get until you pay it down.

Even a vanilla HELOC at one bank is not the same at another. One lender for instance will allow you to separate the HELOC into 5 or 6 components while others can give you up to 99 or more.

Why would anyone do that? Well, you can use it for different purposes and able to track it better (ie Loaned to sister, Joint venture investment with Bob, Car loan to business). They are terrific for income tax purposes. Especially when you are using portions of your HELOC on your primary residence to invest in several properties. You can separate each one so that you can expense to the correct property. You do want to build passive income from many properties, don’t you? As you can guess, it is straight forward to do it with the right HELOC.

  1. Re-Advance-able HELOCis the big brother of the standard HELOC. For most people, they have a mortgage portion and a HELOC portion on their home.Let’s say you have a $1M property, of which $400K is a fix mortgage and another $400K HELOC. As the mortgage portion is paid down each month (principal and interest), the amount of principal that is paid down will increase your HELOC limit. For example, if $2000 is paid each month and the principal portion is $1,000; then your HELOC limit increases by $1,000. At the end of the year, you should see your limit increased to $412,000.The main benefit is an immediate access to funds that you paid down without refinancing and requiring legal expense to increase the credit limit.This type works best when you have a “collateral charge” on your home that is equal to or greater than the current value of your home.  As your property value climb, you can gain access to that fund just by providing an appraisal of the increased market value.  Most people have this type of HELOC for the Smith Manoeuvre (see Smithman.net).

    The biggest drawback to this is that the debt registered on your title will be higher than what you have currently borrowed or access to. This will deter any secondary financing on that property.

  1. All-in-One HELOCis an interesting product that has all the features of the re-advance-able HELOC and mortgage combined with a special bonus.
    The bonus is that it is setup just like a chequing account that will allow you to do ALL your daily banking (pay bills, e-transfer, debit access etc.) and deposit your pay into it. This simplifies your life by not having multiple accounts for chequing and credit line.In theory, if you get paid bi-weekly, the deposits go directly to your mortgage and therefore pays down your outstanding balance faster.  Since your bills are only paid near the end of the month, you have 2-3 weeks of your hard-earned money “temporarily” paying down your mortgage.Of course, paying those credit card bills and month end expenses will push the outstanding balance back up again.
    That is true.  However, in theory the 3 weeks or so that you deposited money into would have reduced the interest accrued during that time.

The drawbacks to this type of HELOC are:

  • seeing your debt go up and down like a yo-yo is disheartening for some
  • most lenders will charge a hefty monthly fee (just like a daily banking account)
  • difficult to separate how much of a HELOC was used for what (income tax nightmare for accountants)
  • refinancing it would be very inconvenient since your payroll deposits and pre-authorized expenses (PAD etc.) have been directed into and out of that account

Confused

As you can see, there’s more to a HELOC than just a line of credit. Getting the wrong one will limit you down the road, potentially creating more work for you and limiting your ability to take advantage of opportunities.

On top of these differences, some lenders even offer preferential rates to certain types of professionals (but only if you ask about it).

As you can see, by using a commercial financing expert, you can avoid making these costly mistakes and get access to the best products available in the market.

Feel free to contact me for a complimentary consultation to find the right product to fit your financing strategy.

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