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How Can a Home Equity Line of Credit (HELOC) Reduce Debt?

The most valuable asset many Canadians have is their house, and a Home Equity Lines of Credit (HELOC) provides access to that value. In recent years, the Home Equity Lines of Credit (HELOC) have gained increased popularity and acceptance. For example, in the first quarter of this year, Canadians set a record for HELOC balances, with a combined $260 billion outstanding.  Going by an estimated population of 38 million people in Canada, that is an average of approximately $7,000 per Canadian!

So, what exactly is a Home Equity Line of Credit (HELOC)?

A home equity line of credit (HELOC) is a revolving and secured form of credit. Lenders use your home as a guarantee that you'll pay back the money you borrow. Generally, there are two types of HELOCs:

  • HELOC combined with a mortgage, also called readvanceable mortgage

  • Stand-alone HELOC

When it comes to HELOC combined with a mortgage, most financial institutions offer it under their own brand name. This is a combination of HELOC and a fixed-term mortgage.

You usually have no fixed repayment amounts for a HELOC. Your lender will generally only require you to pay interest on the money you use. In addition, the fixed-term mortgage will have an amortization period. This also means that you have to make regular payments on the mortgage principal and interest based on a schedule.

However, there is a 65% credit limit for readvanceable mortgages. That is a maximum of 65% of your home’s purchase price or market value. The amount of credit available in the HELOC will go up to that credit limit as you pay down the principal on your mortgage.

On the other hand, a stand-alone HELOC is a revolving credit product guaranteed by your home. Although it’s not related to your mortgage, you also get a 65% credit limit. Yet, the amount of credit available won't increase as you pay down the mortgage principal. This type of HELOC can be used instead of a mortgage to buy a home.

And how do HELOCs help me reduce debt…

HELOCs are ideal for debt reduction or even debt elimination. For example, you can transfer the debt on your credit card to a HELOC. Since HELOCs are known to have significantly lower rates, it becomes easier to pay off the debt, especially at a lower rate. This will certainly help you spend less than you would.

In the same vein, many homeowners take out HELOCs to pay off or consolidate their high-interest debts. HELOCs can be very helpful in saving more money through lower interest rates. When compared to credit cards and personal loans, HELOCs provide considerably better rates. This is particularly true because they are secured by the value of your home, thereby, making them an affordable borrowing option. As a result, considering a HELOC will help you recover from debt faster than other loan types.

In Canada, the average price of a house is about $800K. Likewise, the maximum credit available on a HELOC is 65%. That is, at an assumed value of $800,000, about $520,000 becomes available for use. And, of course, the borrower has complete control over the money, which can be used for anything from making purchases to sponsoring vacations to paying-off debt. An additional advantage is also that borrowers do not need to take the entire amount at once. Again, when and how much to borrow is at the discretion of the borrower as long as certain conditions are met.

Bottom line

Home equity lines of credit (HELOCs) are an option for disciplined borrowers who want to take advantage of their home’s equity. HELOCs have the most flexibility in terms of what you can borrow and when you can pay it off. While HELOCs also come with risks, remember that they can’t solve the cause of your debt. You may need to take steps to address how you spend money.

 


Ali Zaidi UW Ali Zaidi UW 11/25/2022
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