Reduce Debt Increase Wealth

Line of Credit

November 14, 2021 MIsterchuck Season 2 Episode 87
Reduce Debt Increase Wealth
Line of Credit
Show Notes Transcript

Should you use a Home Equity line of credit HELOC what are the benefits and disadvantages. Maybe an Equity loan is a better way to improve the home. Personal loan line of credit is another option maybe but will cost more interest.  

 Article Links: 

 https://learn.financestrategists.com/finance-terms/loc/equity-line-of-credit/ by True Tamplin, BSc, CEPF®

 https://www.experian.com/blogs/ask-experian/best-and-worst-ways-to-use-heloc/  by Karen Axelton

All episodes are now on Facebook  go to ReduceDebtIncreaseWealth.com in Facebook and look to the podcast tab.

Charles McDonald:

Hello, I'm your host, Mr. Chuck, I retired accountant turn truck driver, I reduce my debt in a relatively short period of time, debt reduction to achieve financial freedom takes commitment, confidence, determination, line of credit, should you use a home equity line of credit are known as an HELOC. And what are the benefits and disadvantages? Maybe an equity loan could be a better way to improve your home. And the other a personal loan line of credit. That is a another option, but may cost you more in interest. So let's start out talking about a personal line of credit, or just a personal loan that comes in two forms. It could be unsecured, which means it's based on your credit history. And if you have a really good credit history, and you pay all your bills on time, and the lender is happy with that, he might be able to get a personal loan. Or you might be able to get a personal loan by using putting up collateral such as a automobile, maybe a boat or a motorcycle or something that has a title to it, it needs a title to it because it has to show that you own it. And they're not gonna loan you anything unless you can prove that you own the item that you're using as collateral. So a good example of that would be a pawn shop, we're like doesn't have to have a title, that you take an item to a pawn shop, maybe you own a guitar, maybe you bought a guitar for $1,500. And you don't play it very much, but you'd like to keep it for future use. But you're short of cash and you need $500 to repair your car. So you take your guitar into a pawn shop, and you pawn it, they hold the guitar as collateral, and they'll lend you money based on the value of that guitar. So if it's fairly new, it's in good shape and everything and they say, well, you may have paid $1,500 for it, but we can only sell it for $900. So we're going to lend you $400, because they have to have a profit in there. And their profit is just like charging you interest. They loan you $400 you get your car repair, couple pays later, you can go back, I think you have 30 days, I'm not sure about that, you can go back and pay the loan back, plus a little bit more me my guess was interest. And they will give you your guitar back that is a personal loan with some form of collateral. That's would be a pawn shop. You can also get a loan using your car. automobile, if you have a clear title, clear title, meaning you owe nobody else money on that car. And you they will hold your title of the car so you can't sell it. And they will loan you money based on the value of the car and then probably reduced a little bit more. So if you have super good credit, you pay all your bills on time you can get a personal loan. So why would you even consider getting a loan using your home? Well, the number one reason would be the rate of interest they're gonna charge you is gonna be a whole lot lower. If you use credit cards or the pawn shop, they're gonna be charging you anywhere from 15 to 30% rate of interest. And i you get a personal loan, with n collateral, you gonna pay a hig rate of interest because there' they're taking more risks. I you use your home as collateral the lender is taken a whole lo less risk. Because if yo default on that loan, they hav the home as collateral and the can foreclose on the home. Tak it from you, sell it, get thei money, pay off an other loans that may be used as collateral such as your first mortgage. And then if there's any money leftover, they'll give you the cash back and most likely it won't be anything over because they're going to charge For everything, they're going to charge you the cost of the foreclosure, the attorney costs, all the legal fees, everything. So if you do get money back, that means you had a lot of equity in your home, what comes up to what is equity, because that's really why they're giving you the loan is because you have equity in the house. And I've been saying a few commercials or quite consistently commercials about finding money in your home. And then the one guy is using a hammer, and he's punching holes in the drywall, and destroying his house looking for money. And another guy's got a wrecking ball on a crane thing, where he's going to tear down the house looking for money in the house. And then there's always somebody standing off the side that says, or the spouse says, honey, we I called so and so and I got the money out of the house. So what they're referring to is equity. And equity is the difference between the fair market value of the home at the time that you make the application for loan. And any other loans that are hold against that house generally cannot borrow more than 85% of the value of the home or the equity in now. So an example would be you have a mortgage on your home and you owe $100,000, they get it appraised because we need to farm not what you paid for it. But what it's selling for in your neighborhood at the time you make the application for the loan. And let's say it's 300,000, that means you have an equity of $200,000 in equity in your home is the difference between that $300,000 that i could sell for under $100,00 , that you still owe on t $ 200,000. So your would abl to borrow up to 85% of hat $200,000, which about $170, 00. I didn't do the math befor hand, but I'm thinking som where around $170,000 that yo could borrow against your home sounds and the interest rat would probably be somewhere around four to five 6% at the ti e I've made this podcast c uld be higher than that, but I really don't know I hadn't look d into it. And this, like w en you financed your home, w en you purchase it, you're gon a have closing costs, there may hey'll be an inspection, there may be an inspection, though, m y want to have a survey, most f them probably not, they ave to definitely get an apprais l done by independent appraisal. So all those are gonna go into t e cost of that loan that you'r gonna have to pay for. Sometim s they will just take the money out of the loan they give y u. And sometimes they want you to pay that upfront. If you're smart, you'll keep an eye out if you're in the market for a equi y line of credit or a home equi y line of credit. Some banks, ou get this from a bank or credit union, any financial inst tution that gives out loans a e most likely do a equity ine of credit. So there's pl nty of them out there, there's a lot of competition for your bu iness. So some of them m y have promotions, where they'll say no closing costs. And that's what I did. I want for one that had no closing costs, but it ha a $90 a year annual fee, which is not too bad, as long as you'r using it. Plus the rate of i terest was somewhere around 5%. But it was adjustable. So if the interest rates go up, the would adjust the interest ate up fairly rapidly. B t when interest rates would d cline, they were kind of low in dropping the interes rates down. Just a word of cau ion on that. It would be an adj stable rate of interest. So if the interest is going up, you're gonna be paying more a d more over time. That's th of a line of credit. So we covered the personal loan, we covered personal loan with collateral, we covered a equity line of credit using your home as collateral. Or the other option would be an equity loan It works similar to the line of credit except it's for a set dollar amount. And you they get your money all at once up front, and you have monthly payments just like your mortgage. So it's it's a second mortgage is what it is based on the difference between the market value of your home, and what other loans that may be outstanding on your home. I have two articles in my show notes I have linked to the first one learn dot finance strategies.com equity line of credit. And that's basically what I just talked about. The second article is from Experian Comm. Blogs, x experience, best and worst ways to use an equity home equity line of credit, which we're going to talk about next. If you get a line equity line of credit, mean you use in your home as collateral. And that would be the HELOC is th abbreviations for that. It's fo whatever amount of equity th t you have in your home that th y're willing to lend you. As a ule of thumb, it's generally 85 of whatever equity you have in your home. And you can use th t money for whatever you want to use it for. And you don't ac ually get the money up front. Bu you can use it whenever you wa t, they will give you checks. An what I've always done is ju t go online to the bank, I al ays had my line of credit th ough the same bank was my ch cking account. And I would ju t go in my online account, an I would transfer the money in o my checking account. So I co ld pay the contractor, the ve dor that whatever I was pa ing for. And that is referred to as a revolving line of cr dit. So let's say that you ne d to have some plumbing re airs done. And it's $1,000, th t you have a line of credit of $50,000. So you don't have th money handy. So you transfer $1 000 in your checking account li e I do, and you would pay the pl mber. And then you maybe you we e paying $250 a month to pay it back. And then once you pay th $1,000 back in now you still ha e $50,000. So you borrow the mo ey, your your loan amount, on from $50,000 to $49,000, you aid the money back, as you pay he money back, your loan amount ent back up, that is a evolving line of credit, a lot ike some department stores used o have, maybe they still do, I on't know. That's generally how hey work. And the difference etween that and an equity loan s an equity loan is they give ou the money one time. And when ou pay it back, you're not etting more credit, it stays he same. It's like any other oan that you have like an auto oan, or you know your first ortgage. Why would you use it quity line of credit is well ecause it has a lower rate of nterest is a lot cheaper than sing it than a credit card. And t's going to be cheaper than sing a personal loan. And more onvenient than going to the awn shop and pawn and something hat you have. And then saving p the money and going back and etting that item back from the awn shop. That you know it ould be considered a hassle. efinitely a lot cheaper than a ayday loan, which is just a ash advance for a very short eriod of time where they charge ou have a really high rate of nterest. So it's an act more economical way to borrow money for a period of time if you have collateral in your home. So if you just bought your home, and you've been in your home for less than a year, most likely you won't have any collateral or very little advantage. So you might be two or three years down the road. Before you'll be able to have a line of credit, then it may only be for $20,000 the most my lender would ever give me was $40,000 and I had way over $100,000 of that $100,000 Yeah, and equity s also based on your ability to pay them back based on your income and what other loans y u may have, here in the article the second article says you can typically borrow between 60% to 5% of your home's equity. And ag in, that's going to be based n your credit score. And it's a so going to be based on how mu h your first mortgage, or how lo g you've had that first mortga e. So the shorter length of tim you've been in the home, the us ally the less they're gonna ive you it's a risky thing or the lender is what you're referring to. So why would ou get it and how should you be using it? Remember, it is debt a ainst your home, and that's where you live. If you are un ble to pay it back, and they f reclose on you, you're going o lose a place to live. That's why I always kept it even though when this started back in the 80 , when it became more popula , I think, was back in the 80 , people were using the equity out of their home and using t to buy an automobile. So the didn't have a loan on the au omobile. So they had a clear itle on the automobile. But ye , they had their home tied u longer. And they were well i 's cheaper that way I can get th s because it's like a quarte percent cheaper than Ottawa Either way, but if you are ab e to pay it back and you sell t e car, you're not gonna sell t e car, for as much you paid f r it, you could actually owe mo e on the loan and the value f the car. So you're gonna e upside down and won't be abl to pay it all back. I mean, t's terrible. It's a bad risk. o my personal things was only t use it to make improv ments to the home. Becaus if you make improvements to the home, you're gonna help the va ue of their home, or maybe ncrease the value of the home. hat was my major reason. In thi article from experienced calm, he best and worst ways to use a ome equity line of credit There. Number one is home i provements, as they're well s ited to finance home improv ments that are completed in sta es, because you can draw money s you need it. And its improv ments add to your home's value, interest pay may be tax deduct ble, which generally they will b most cases. For a major home r pairs. discounting your home n eds a new roof can be put a big ent in your budget, or if you do 't have an emergency fund. r if you met your emerge cy funds, not big a roofer home is very expensive, it's g ing to be at least $5,000 So you could use it for a majo repair on the home. But it may not add value to the home. ut over time, it will becaus the home is well cared for. T ey're also saying financ al emergency, if you lose your j b face to face a major medica bill or other financial crashe , credit crisis, and home equity line of credit can help you ge your back on your feet. I will disagree with that if you lose y ur job. The last thing you ne d to be doing, if you're going o be unemployed for an extend d period of time is increa ing what you have to pay out ev ry month. Using debt to pay de t is never a good option. I'd ra her not make payments on my loa , and tell the lender what situation and work with the lenders before I would use that to pay down other debt, because you're just gonna dig in a deeper and deeper Hall. If you have a major medical bill, I never put that on a credit card. I never borrow money to pay it. I work directly with the medical provider and set up payment plans with them. I've never had any issues and they work with you and they won't charge you interest. That's the reason I do it. And then another reason ways are citing as a good way to use is paying off credit card debt. Again, it's the same thing. You're creating new debt to get rid of all debt. Maybe you're gonna have a lower rate of interest. Well, I know you're gonna have a lower rate of interest than what the credit cards are charging. Yeah. But why do you want to create more more debt, that to pay off old debt? I've never done that. But it is an option. If you're struggling, if you got three or four credit cards, and you know, say $10,000, and you have equity in your home of $50,000, it's a way to get the credit card debt under control. But only if you have a well thought out plan to avoid building up that credit card debt. Again, you have to be aware, if you go out to a lender and say I want a home equity line of credit in January, it doesn't matter why you want it. But they might ask you what are you going to use it for? I do a major home improvement, I got to remodel my kitchen and my bathroom. Okay, well, that's good, we can work with you. But if you say I'm going to pay off my credit card debt, well, what you know what the one of the things are going to do, they're going to look at that, maybe you don't have a good enough credit score a good enough credit, even to get a line of credit, maybe you're going to be marginal, because you have all that credit card debt. If you tell them you're going to use it to pay off credit card debt, or even if you tell them you're going to do a major repair, if they see you have a lot of credit card debt, they're going to require you to pay it off. And to cancel those credit cards. And not only are they going to require you to do it, they're gonna do it for you, and you won't have a choice, they're gonna pay off that credit card, and they're gonna cancel it. In if you're struggling with a mediocre, mediocre, or bad credit history, and your marginal, you may have a hard time getting one credit card in the future. And then there'll be a new credit card, and that's gonna go look bad against your credit score. Because if you have credit card debt, and you want to pay them off, you don't want to close their cards, but you definitely have to quit using them. And the reason why because the longer you have, the older the card you have, the longer you had that credit history, the better it looks for your credit score. What are bad ways to use a line of credit? Number one, college tuition. You don't want to do that. And there's other ways and student loans are generally better because you're not using collateral. And with federal student loans with much are now you get deferment on the payment until you graduate from college or get a job. So as long as you stay in school, you don't have to start paying for college tuition, loans back vacations or weddings. Well, it may be a dream vacation or a dream wedding. You don't want to create debt, using your home as collateral to do that, buying a car. With good credit, you can get an auto loan with a lower interest rate than an HELOC, may be able to get a loan with no nterest rate for six years, or lower interest rate for fiv years. It all depends. starting a business, instead of putting your home in Peru and Pearl. For untested business idea, explore financing options such as investments, or loans from family or friends, credit cards, crowdfunding or business loans. I say family, a friend can loan you the money, but you should be using your own money. So if you're starting a business or thinking about starting a business, make sure you have a large enough emergency fund to get you by for six months, a minimum and large enough money for the business to get the business up and running and creating income. And that may take you anywhere from three to nine months before you're actually making a profit in any type of business. Maybe not hard to say depends on how much it costs you to get the business on. Like if you had to rent an office or retail space. Maybe you have to buy fixtures made by amatory, whatever the case is, it could be a costly venture, and you should have the money available even before you even start thinking about it. And you don't borrow money for investing. So it's just a no no and don't ever do it. That's all I'm gonna say about Investing, using your home equity line of credit for investing, it may seem like a good deal, or you're reeling to live risks the place you live in order to make some money in the market, that may or may not happen. Alternatives we already covered personal loans personal line of credits, oh balance transfer from credit card. So if you have a credit card with a zero or very low balance, they may offer you a transfer, we can transfer the balance from one card to another. And they may have anywhere from a six months to an 18 month zero rate of interest on that transfer. But they'll charge you 3% to transfer the money and cash out refinancing, which is your you take your first mortgage, you refinance your home, and whatever extra money you can borrow, you borrow and you get the money upfront. And it's a one time thing. And it's basically similar to just getting an equity loan. So it might be cheaper just to get an equity loan. So it all comes down to what you need to use the money for and what your intentions are for using the money. And I'll be back in one moment with my final thoughts. If you listen to this podcast, reduce that increased wealth on an Apple device, scroll through all the episodes towards the bottom. And you can select write a review and leave your comments. And you can rate this podcast, I appreciate all feedback. And I thank you for your time in doing so. A line of credit is an advantage because it gives you a lower rate of interest, if you're gonna use the money to make improvements to your home. So if you bought an older home, and you've been in there two or three years, maybe you made some small improvements or updates based on the refunds you got back from your tax return. But you now you're coming up to where you need to do a major project as such as a kitchen remodel, or a bathroom remodel. Or it's gonna be a lot of money all at once. The name you want new appliances, new stove, new refrigerator and my case, I want to rearrange my kitchen to make a more efficient. So that's what I would use my line of credit for, for new cabinets a new countertop, and to rearrange everything. So it's more efficient. To use your equity in your home to buy an automobile to pay for college. To pay for a wedding or a vacation is not a good idea. You don't want

Unknown:

to turn a short term item and to long term debt.

Charles McDonald:

A wedding is one day it's going to cost you a lot of money, I understand that I would look for ways to reduce your cost on the wedding and save up for the wedding before the actual year for this dude, a wedding that you can afford. That's the better way to go about it. And if you have a wedding, say you've been in a house three or four years or five years, and you have a cost effective wedding, and you ask the people attending to give you cash donation or money donations instead of a gift, because you want to use the money to remodel your home. Most people willing to do that, save the money and put the money where you gonna get a bag and you're not gonna get any money back from wedding. not going to get any money back from taking a vacation. But if you put that money into improving your home, whenever that day comes when you sell their home, you're may get more than 100% of your money back because the home or continue to improve and buy. Don't use it to buy an automobile or something that's going down in value. That is a bad choice. And again, auto loans may be a better choice for an automobile. Personal Loans can be more costly, personal loans and unsecured you would have to have a good credit rating in Naver To get one, an equity loan, if it's a one time project, you have a bids and the contractors gonna be there. And you just borrow exactly what you owe on or maybe a little bit more, say a few 1000 in case it goes over budget because whenever it's an older home and they get into a project, they might find something else you need to pay for. an equity loan may be a way to go on that. But make sure you get approved for more than what the contractor what the project is going to cost. You need to build in some wiggle room there. So you don't come up short when you're doing a project. So again, planning, having a budget to make sure you can afford that new loan is also very important. So plan ahead, save ahead, budget ahead, and you're not gonna have any problems.