As a homeowner in California, you may be tempted to access your home’s equity and use it to pay for other immediate needs or wants. There are several ways to draw funds from your home’s equity, such as refinancing your mortgage to get cash out, taking a home equity loan, or establishing a home equity line of credit.
But does it make sense to use such funds to replace your roof or remodel your home? Paying off your credit cards might also sound tempting. Maybe you could finance Junior's college education. What about supplementing your retirement income?
These are tough decisions. In fact, any reason you might have for considering using your home equity might be good or bad, depending on your situation. (Which is exactly what you didn’t want to hear, right?) Here’s the deal: What you should or shouldn’t use home equity to pay for all boils down to responsible borrowing.
Let’s consider six common home equity cash-out scenarios and why they might — or might not — make good sense for you.
Use Equity to Renovate? Yes.
At Fremont Bank, we’ve found that home improvements are "the No. 1 reason" home equity lines of credit, or HELOCs, are used. Second on the list are major purchases, which include vehicles, appliances or other durable items (as opposed to extravagant weddings or exotic vacations). It really does seem that our clients are using home equity for what they need rather than for what they want, and we’re especially pleased about that.
Use Equity for Investing? Maybe.
Home equity could be used to invest for a higher return as long as interest rates remain low. It’s typically inexpensive cash. Just think, if you were to borrow at 4% and use that money to make an investment in the stock market that yielded 8%, you would have made 4% on your money. Not bad. However, we recommend caution, as the stock market can be volatile, and it is possible to lose your investment entirely. We suggest that you consult with your financial advisor before using the equity in your home for investing.
Use Equity as a Student Loan? Maybe.
With a HELOC, the interest rate may be lower and the maximum loan amount higher than you’ll find through some other types of education financing. Home equity can therefore be an attractive way to finance a child's education. But this strategy isn't risk-free. If you build up a huge debt over time, you may find yourself struggling to repay it and possibly having to delay your retirement.
Use Equity as Retirement Income? Maybe.
Some retirees use their HELOC to meet their current income needs in years when their investment returns just aren't sufficient for that purpose. But again, there's a risk, because eventually the retiree will have to make payments on the HELOC and possibly face a balloon payment at the end of the repayment period.
Use Equity to Pay Off Credit Cards? Use Extreme Caution.
Use extreme caution if you are thinking about paying off credit cards or other unsecured debt with your HELOC. I know, you’re thinking, “But everyone does it,” right? When you run the numbers, it may look as if it makes sense. But if you tend to accumulate new debts quickly with impulse purchases on your credit card, this can lead to serious trouble over time.
Just consider this: Freeing up unsecured debt (like credit cards) for secured debit (such as a mortgage or a HELOC) could put you in a risky situation.
Use Equity for Emergency Fund? Maybe.
Having a HELOC that offers a low rate can be a more viable option than keeping a large sum of money in a low-interest-bearing bank account. Of course, you always need to remember that if a major life catastrophe happens and you can no longer earn an income, you may be putting your home at risk. Also, don’t be tempted to “redefine” what your emergency fund should be used for. It may be too easy to access it for wants instead of needs.
If you have questions about a home equity line of credit, please contact one of our loan specialists at 866-359-0167. Be sure to ask about our current promotional programs and rate discounts.