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The Dos and Don’ts of Using a HELOC

This piece was originally published on February 11, 2019, and was updated on May 19, 2022.

A home equity line of credit, or HELOC, is a convenient way of using the value in your home as leverage to borrow money. HELOCs are attractive for their low interest rates, very generous repayment terms and the large amounts of money they give you access to.

HELOCs are able to offer these features because they’re secured by a valuable asset – your home. Because the amount of money you can borrow is limited by the value of your home, you should theoretically be able to pay off your HELOC in full at any time. All you have to do is sell your house.

That’s why, just like credit cards and other forms of debt, it’s easy to fall into a trap when you have a HELOC. If you’re thinking about taking out a home equity line of credit, here are some dos and don’ts to keep in mind.

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DO: Use a HELOC to consolidate high interest debt

HELOCs are famous for their low interest rates. The best HELOC rates in Canada are currently Prime plus 0.5% – putting total interest on a HELOC at about 4.45%. Compare that with an unsecured line of credit that will be closer to 9%, or a credit card that charges around 20%.

If you have $20,000 in credit card debt, you’ll pay $333 a month in interest at 20%. Compare that with about $74 at 4.45%, and you’ll see how a HELOC can make it easier to repay your debt much faster than by leaving it on your credit cards.

DON’T: Use a HELOC to stash away debt you don’t intend to repay

The danger of using this strategy is transferring your credit card debt to a HELOC hides it away, out of sight. The minimum payment on HELOCs is only the interest, so it might feel like your debt has gone away when your minimum payment drops from $600 to $74. And there will be a lot less pressure on your credit cards when it looks like they’re paid off.

Avoid this trap by making a plan to pay off the balance you transfer to a HELOC. Try to continue making the payments you would have anyway. And if you think you’re at risk of racking up a lot of credit card debt again, consider cancelling your credit cards or asking the provider to lower your credit limit. If you need to, think about making some lifestyle changes so that you won’t spend more than you earn.

DO: Use a HELOC to fund home improvement projects that may add to the value of your home

If you’ve been considering a renovation, a HELOC might be a good way to fund it – especially if it will add value to your home. For example, renovating your kitchen and bathrooms are among the highest return on investment jobs you can do. You can reasonably expect that $20,000 in kitchen renovations will add $15,000 to the value of your home. Plus, you get to enjoy a nice new kitchen!

DON’T: Use a HELOC to fund spending you should pay for with savings

The reason a HELOC makes sense for home improvement is because the HELOC is tied to the value of your home, just like a mortgage. Using a HELOC to increase the value of your home isn’t much different than using a mortgage to buy a home.

Likewise, using a HELOC to pay for a vacation isn’t much different than using a mortgage to pay for a vacation. That money does come from somewhere: you’re responsible for paying it back one way or another. And if you can’t, your house is at risk. For that reason, save up in advance for big purchases like vacations.

DO: Make a plan to repay the money you owe on your HELOC

Think of your HELOC like a second mortgage (because technically, it is). Make a plan to pay back the money you owe on your HELOC, and at the very least, try to pay it off in lockstep with your mortgage.

For example, if you owe $100,000 on your HELOC, and you have 20 years left on your mortgage, try to pay back $417 plus whatever interest you owe every month to pay off your HELOC at the same time you’ll pay off your mortgage. ($100,000 / 240 months = $416.67)

DON’T: Fall into the trap of making interest-only payments

When you take out a HELOC, the minimum payment is just whatever interest you owe. You can borrow $100,000 and only pay $371 a month – but that only maintains the interest. Don’t fall into this trap. Even if you make your minimum payment every month for a decade, you’ll still owe $100,000 – and you’ll have paid almost $45,000 in interest.

DO: Shop around for the best HELOC rates

You can get a HELOC from any lender in Canada, regardless of what bank you use most or who your primary mortgage is with.

Again: it doesn’t matter who you bank with, or which lender funded your first mortgage. You can get a HELOC with any provider. So shop around and find the best rate. Just like with mortgages, every lender offers slightly different terms and rates on their HELOC. Consider using a mortgage broker to help you arrange a HELOC.

DON’T: Forget about the expensive setup costs

HELOCs are a convenient way to borrow large sums of money, but they’re not convenient to set up. Unlike a credit card or unsecured line of credit, which you can usually be approved for in less than a day, HELOCs need a lot of work to get going.

The application process is similar to getting a mortgage. You’ll have to provide proof of your income, assets and all debts. You may have to pay a fee for the lender to appraise your home (typically around $300). And because the loan will be registered as a second mortgage, you’ll have to hire a real estate lawyer to get it set up (typically around $1,000).

In all, you’re reasonably looking at spending a minimum of $1,300 to set up a HELOC, and the process can take several weeks. If you’re thinking about a HELOC as a way to get your hands on some quick cash, you might want to consider other options.

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