What is equity?
Equity is the value of your property minus the debts that are held against it. If you pay down your mortgage by $500, you have an additional $500 worth of equity in your home (assuming the value isn’t less than what you owe on your mortgage). Building up equity is one of the best arguments for owning a home as opposed to renting one. The money you pay monthly toward your mortgage is still yours, and you get it back when you sell the house.
Many people use that equity to help fund home improvements or other projects. Before you start, let’s look at some common mistakes people make with home equity lines of credit as well as some low-risk opportunities they can provide if managed responsibly.
Don’t: Think of it as “free money”
One of the key causes of the sub-prime mortgage crisis was abuse of home equity loans. People would spend recklessly using the equity in their homes. They expected the value of their property to forever keep pace with their levels of spending. When it didn’t, they found themselves owing more money on their homes than they were worth, and there was not enough credit (or value) in the home to refinance. Spending your home equity to finance your lifestyle is a lot like burning your house down to stay warm in the winter. It’ll work for a while, but you’ll be left without a place to live.
Don’t: Use it to pay for tuition
Unlike student loans, which have a fixed interest rate, the interest rate on a home equity line of credit is variable. Changing economic conditions can make the loan more expensive without much warning. A home equity line of credit also doesn’t get interest deferment, repayment delays, or federally subsidized interest rates, which makes them a poor choice for college financing.
Do: Think of it as an emergency fund
One of the smart money habits of financially successful people is establishing a small pool of savings to pay for unexpected disasters like job loss, car repairs, or major illness. Having this savings enables them to avoid going too heavily into debt if one of these catastrophes occurs. You can use your home equity line of credit in a similar way. While it’s not an ideal emergency fund, it’s a far better rainy day answer than credit cards or payday loans.
Do: Use it to start a business
If you’ve been thinking about opening a small business, you probably already know that financing that dream can be a struggle. Your home equity line of credit can help pay for some of your start-up expenses. You can use it in conjunction with grants and small business loans to diversify your risk. The favorable, flexible repayment terms and lower interest rates can make this a viable option for your new venture.
Do: Improve your home
One of the safest investments you can make with a home equity line of credit is remodeling or improving your home. Installing new appliances, vinyl siding, or energy efficient windows will pay dividends both in the increased value of your house and in your quality of life. These improvements will increase the value of your home. They will also increase your available home equity, and the money you’ve put into your home will possibly pay off when you sell it.
Considering a home equity loan? Give us a call at (877) 937-2328 or visit cfcu.org/HELOC for more information. We’d be happy to review your unique situation and recommend the home equity loan or line of credit that’s right for you.