Tune in to this week’s podcast where I give Matt Robison a quick and dirty lesson on all things HELOC and explain why I just paid mine off.
Home Equity Lines of Credit (HELOC) are popular lending options for homeowners with a decent financial stake in their property. Earlier this year, it was estimated that 17% of Americans currently have a HELOC. And why not? With interest rates in the 2-3% range, a HELOC made a great option for getting cash to fund projects like home improvements.
Did you spot the past tense? As federal interest rates rise, so do mortgage rates and, you guessed it, HELOC rates. The average HELOC rate for borrowers is currently 6.51%.
It made sense for me to take a HELOC a few years ago to cover some education expenses and home improvement projects. Rather than pulling money from my portfolio, where it was making roughly 8% in interest (given historical context and what we know about the market), I borrowed against the equity in my home since I was only paying 2% interest.
Now, however, the interest rate has risen to the point where it no longer makes financial sense for me to keep that balance outstanding. Will I close the line of credit? Absolutely not. Why? Because if the market takes a downturn and I want to buy-in while everything is essentially “on sale,” I can use the HELOC to get cash easily. It can also be used as an emergency fund, should that become necessary.
Welcome to real financial planning broadcast on WKXL available wherever you get podcasts, I’m Matt Robison joined as always by Mike Morton, who runs Morton financial advice where he distills and dispenses actually after us those terms sound like you're gonna give out something really awesome like a libation. No, he gives out financial advice. He also has his own podcast, financial planning for entrepreneurs, which is excellent. I know it's excellent because our shows end up in that podcast. So there.Mike:
That's right, because you're on it!Matt:
Yeah. So I love the host. He's brilliant. So do what you can tell it audio. Mike, how are you?Mike:
Good, man. I'm glad you still have the American flag behind you still feeling very patriotic with your massive flag that doesn't even fit in the frame. The whole thing doesn't even quite fit in there.Matt:
Now I'm locked in. It's a problem I'm having here is that I'm locked in having put up the American flag, under what circumstances to take a town. That's right. Now, I've replaced what was previously there, which was my children's artwork on my Zoom wall. I took that down.Mike:
Exactly, the children, maybe that's what you can replace back maybe that's the only thing you replace it like my kids brought home a ton of great artwork, their budding artists and I really have to encourage and show their stuff.Matt:
That's yeah, what comes first your kids or your love of country. Hey, we're so far off topic. The problem I'm having today is I don't really know what today's topic is about. This is great. I am totally probably like a lot of your clients who hears something okay, here’s the way this works. My wife is a doctor and people come in all the time and they say hey, I saw an ad ask your doctor if head blow up a call is right for you. And it's hey, I hear this might blow up my head. Is it right for me? And people probably come to you and they say Hey, I heard this weird thing. I wonder if it's right for me. And so you want to talk about a weird thing today. I have no idea what this is, what's a heloc?Mike:
Heloc here we go okay you started this bad right before episode gets it is like we talking about? Heloc I don't even know what that is. Let's go. Perfect.Matt:
Then they turned it into a movie that wasn't good. HaloMike:
Halo. Oh no. Don't find words. It’s the 20 year anniversary. But yeah, I don't know. But I never saw the movie. I think it was a TV show Anyway, okay, helocs not Halo. Helocs are a home equity line of credit heloc. So these are how you can borrow money based on equity based on owning most of your home. So even if you have a mortgage, hopefully your home is worth more than your mortgage that you owe on it, you're not underwater. And so therefore sometimes the banks will let you borrow some money based on that equity, you have maybe a few $100,000 built into your home. And so you could go to the bank and say can I borrow $50,000-$100,000. And they say great well secured loan secured by your home. So it's a home equity line of credit, it's often an easy way for homeowners to borrow $50,000-$100,000, even more, very easily pretty good rates. And typically they’ll be used for improving your home. That's often how they will be used. So you can go and borrow, you know, $75,000 and do a home improvement project and have the cash to improve your home. And it's secured by your home. And then you pay that off over time. Similar to mortgage, there's differences, but similar to a mortgage. So that is what a home equity line of credit a HELOC is, and today, I'm telling you that I just paid mine off. And that's something that you might want to consider as well, depending on where you are.Matt:
I see. All right, so just to make sure that I'm following here. So when you buy your home, typically, most people don't have enough money to buy it outright in cash they don't own, they don't have all that money on hand. And so they take out a mortgage, they borrow essentially, but you usually put some money down. So you might put 20% down. And so at that point, you own 20% of your home, you have that much equity in it over time, as you make mortgage payments, a portion of that payment goes to interest. And so over time as you make those payments, you gain more and more equity in your home. And so at some point you own a certain percentage of your home. I'm not suggesting you just own your basement, but it's kind of like that, and you can then borrow against that. And from the bank's perspective is pretty good because it's backed up by a physical asset that they know the value of and that they can grab a hold of and is indeed going to be valuable. So it's it's a low risk proposition for them.Mike:
Yeah, yeah, that's exactly what that's like the home equity line of credit is and also met, usually your home is increasing in value, right home prices have risen. So not only are you paying down your mortgage, your home is now worth more. And so again, you might have started with 20% down, maybe that was $100,000 that you owned, but over time that might grow to $200,000 to 300,000, just based on the home price rising as well.Matt:
I see. And I can see how that would especially make sense if you're considering some kind of home renovation where again, you're in the situation where you don't have the cash on hand. Why? Probably because you blew it all on, you know, when you had to put money down to buy your home in the first place. But if it's a long term, you know, it's sort of a long term investment. I know I was about to say investment. I know you've said before, don't treat your house like an investment. But I see why that makes sense. So you had credit? Why did you without getting too personal, why did you decide you wanted one?Mike:
Oh, why didn't Oh, yeah, good question. Why did I need a home equity line of credit, mostly because yeah, had some expenses, I needed to cover some extra education expenses in the last couple of year home improvement projects. And the reason was, it is pretty cheap to borrow the HELOC or like I said, a pretty good rate. And if you remember, a minute ago, about six months ago, you get really nice mortgage rates, anything borrowed against your home was a pretty nice low rate. So they were 3%. And at that level, I'm a pretty big fan of borrowing money when it's pretty when it's that cheap to borrow. And so that's why I took one out for a few different projects, you don't have to use them necessarily on home improvement. I had a couple of different projects and need some money. And so we just kind of did it that way for a couple of years.Matt:
Oh, that makes sense. And we actually did a whole show, you're reminding me about how you can if you're in the situation where interest rates are really low, and the stock market is doing well. And you're invested in the stock market. It's actually a great idea. It's like I know, there's no perpetual machine in the universe. But this is kind of a perpetual motion machine for money. Because you can borrow at 2%. And it's like, hey, that's that's a good deal. We're not in that situation anymore. Is that why you decided to pay it off?Mike:
Boom, you got it. And so the problem with the HELOC, so typically your mortgage is going to be a fixed rate mortgage, so you get it and it that 3%-4% that you usually do them eight, four and 1/8 of a percent. And that's the lifetime of the loan. So if you get a 30 year loan, that's the fixed mortgage rate, and then you have those fixed payments, right same payment for the next 30 years every month. So the home equity line of credit is a floating rate. All right. And so as interest rates rise, the home equity that helocs tend to rise as well. So what happened for me, the reason I decided to pay it off, we're going to talk about a little bit more in depth is that the rate was just getting higher. And I no longer felt that borrowing that money was the best use of what I had. So I have a portfolio of money, right some is invested for long term, some for stability, maybe some bonds, maybe some cash, overall allocation, and the cash portion is no longer making as much as my HELOC is costing me and so my cash might be sitting there and instead I can pay down the HELOC. So I decided to use cash that I had that was part of my overall portfolio and completely pay off the HELOC. So I'm not owing 4-5-6 percent interest on the money that I borrowed.Matt:
So I'm just going to make a stretch of an analogy here because what what you're saying sounds like it could be generalizable.Mike:
Is that a word Matt, generalizable?Matt:
I just made, look, there's some great advice. Don't verb nouns, I just verbed that noun and yeah, you know, I generalized it. So it seems like what you're talking about as a situation that might apply to more than just helocs. You don't like generalizable in the sense that you could have short term invested funds, where you're not going to pay a substantial penalty for making use of them. And you might be earning enough that it's okay that you also have money that you're borrowing, but you're paying less interest rate on that. Sorry, I don't want to make this sound complicated. But again, it's the kind of situation where if you're paying 2%, but you're earning 4%, or anything more than 2%, you're in a generally positive money making situation. That's a good situation. This comes up, for example, with people who have very low interest student loans, and the question comes up sometimes I think we even did a show on this. Should I just pay off all my student loans? And I think if I'm remembering right, your answer was well, what percentage are you paying on them? And how much are you earning on the dollars that you've got available that you might pay them off on because you're going to be better off if you're investing those at a higher rate of return? So is that basically the generalizable idea here?Mike:
Yeah, that's the generalizable idea. And it comes up in a couple different ways, right? You brought up student loans. That's a great one. So when you're ever you're looking at your debt, oh, I've got my mortgage, I've got some student loans, and I've got a car loan. And of course, I use my credit cards every month, which should I pay off first, you always pay them off of whichever has the highest interest rates. So credit cards are definitely going to be first make sure you pay those every month. And then like, should I pay off my auto loan, my mortgage, pay some more towards my mortgage, my student loans, just look at the interest rates. So that's why student loans often in the past, and you would have ended at the bottom, some of those are starting to tick up as well. So you might want to take another look. But usually student loans are the last thing to pay off.Matt:
Well, we really shouldn't pay them off right now. Because who knows with the government? Right? Just forgive them.Mike:
Right. Save on $10,000? At least in there. Yeah.Matt:
Well, we should do a whole thing on that, you know, like, when might this apply to you? Because that's, that's an important one. But yeah, okay. That makes sense. I mean, this is not to put you on on blast again, is your situation unusual? I mean, how common is it to have a HELOC?Mike:
Oh, yeah. So there's, you know, a lot of people have HELOC. And in fact, they're getting more common now for the opposite reason. More people are starting to take out HELOCS now, even though the rates are going up because you can no longer refinance. People don't want to refinance their home. So if you do want to get some money, hey, I do want to you know, update and make an addition or update my kitchen, I need $100,000, you're not going to get a cash out refinance, you're going to go and get a HELOC because you don't, you've got a nice three and a half percent mortgage, you're not going to go out and refinance to a 5% or more. So actually, HELOCS are on the rise. But in the US about 17% of homeowners have a HELOC. So they're very popular. And so the reason that I paid mine off is just what you were talking about, you have a portfolio and you want to make every dollar working for you. Now, I often recommend that there's cash and bonds as part of your portfolio. So you just have some cash sitting there for emergency savings, right? We know he needs some emergency savings just in case. And you might have some other reasons that you have cash, maybe it's just part of your portfolio, that cash is doing the job. All right. So if you have $50,000 in the HELOC, you may not want to just go ahead and spend that down if you have $50,000 of cash. Because the $50,000 you have in cash in your checking account or savings account or brokerage might be for your emergency savings. And so you don't want to maybe just use that and pay all the HELOC off. Alright, so there's always a job for every dollar that you have. That being said, if your portfolio is stable enough, and you have a means to then you can do some of that you say I've got $100,000 cash and bonds a stability for my overall portfolio. And I have $50,000 of HELOC debt, that is now five, almost 6%. Maybe you take that $50,000 of that and pay down the HELOC knowing that your HELOC can be part of your emergency savings, you can always re-borrow the money. Alright, so get in that emergency situation again, you know that you have an open HELOC, you can write a check for $20,000, something comes up, you don't necessarily need emergency cash sitting in your account. So there's an example where you just make every dollar work for you and think, Hey, I've got some cash sitting here. If it's working, a lot of times, it's for stability, for emergency savings. Once you know that you feel confident that's why I had this cash even though it's getting 1-2%. But make sure you just have a plan for every dollar that's sitting in your accounts. And you know what it's there for.Matt:
Oh, I see, that's interesting. It does suggest to me that if you have one of these, and you have the ability to re-borrow that money, maybe you could keep a little bit less kind of dead cash on hand in your checking account, for example, and earning essentially nothing for you. And that does give you that ability to, to kind of have that that backup option if you need it now. Just a point occurred to me here and I just want to make sure that there's no confusion. So for people like me, who are, I was today years old when I learned that one of these is we talk about this as as a home equity line of credit. We're talking about borrowing against the equity in your home, but you are not doing the same thing as in a reverse mortgage where you are, in essence seller home. Now, you're you're attaining that equity, you're you're retaining that ownership, you're just borrowing against it.Mike:
Yeah, that's correct. And I don't want to dive into the ins and outs that HELOCS but just for your edification that’s the way they work is you open up one of these lines of credit. Okay, so it may be that the bank says we'll give you $100,000 in a line of credit. The minute you open it up, you haven't borrowed anything and you're not paying anything. Have you had the first 10 years, these are typical terms. But yeah, of course, you can get different ones. But you are the first 10 years where you can write checks and borrow money. A few months later, you decide, Oh, I do want to, I have to write to my designers to my kitchen design a $5,000, check, I write them a $5,000 check. And at that point, you borrowed $5000. And you have to pay interest only payments. For the first 10 years, you can write checks, it's interest only, you can pay it down if you want to. And the interest is they just calculated monthly daily, you know how much interest you owed based on how much you have borrowed, then after 10 years, usually locks in and becomes amortized very much like your mortgage, they give you 20 years to pay it's just the amortization at that point. So all during that 10 years, it's a floating rate, you just borrow what you need, and you pay it back when you need, it's a line of credit. Okay. So that's why you had that flexibility. And it could be an emergency savings backstop. Now, I wouldn't recommend like having no emergency savings and some cash available. But again, he has an emergency, and you've used it and it's worked for you and the banks good and all that stuff could be a viable option. Are you ready to create your ideal lifestyle? Let's discover what's most important to you and design a plan to have more of that in your life. Go to meet Mike morton.com. All one word, meet Mike morton.com.Matt:
And back to what you did. So you paid off the remaining balance, but you still have the home equity line of credit.Mike:
Yeah, that's exactly right. Let me give you another scenario. So we talked about cash. But the other thing is your overall portfolio. I like to have, we talked about investment portfolios a lot on the show, right? So you have this overall portfolio of stocks and bonds and cash and it's for the future and it's going to grow over time. So one of the things now we know we're pretty volatile state, we don't know is it going to go up or down from here we want to be maybe have some cash and bonds available. Ready, like really dips, another 10-20%. It's great to have that money to buy in. Remember buy when things are on sale, when the stock market goes down, that's when you want to buy more. So I like to have cash available. So part of the thing is I personally now have less cash available. I just paid off my HELOC, so I essentially use some of that cash from my portfolio to pay off my HELOC right so I don't have the cash available to buy in the market if it goes down. But if it does go down 10-20-30%. I could potentially borrow money from that HELOC again, and jump back into the market having borrowed at a higher rate. And again, personal choice with the portfolio and all this stuff. But another example on you might have in your portfolio and cash bonds, some stability, you could use some of that to pay down your HELOC knowing you could borrow it again if you need to.Matt:
Since it sounds like HELOCS give you some option value and some outs, the different things you can do is this the kind of situation just to bring it full circle where people who are listening to this should talk to their financial advisor and find out if a HELOC is right for you.Mike:
If you need money, it's a great first resource, I do often recommend to open them up just to have that line of credit standing by for emergencies and other situations. So I do like them. The problem is now the rates are getting up to 5-6%. And if you have cash sitting around, I would maybe recommend, hey, you can use that cash just like I did. I decided to pay it down. I no longer want to pay that for 500 bucks a month to borrow that money was no longer worth it. So every individual situation is different. But just throwing out there. Here's what I personally have done recently based on the change in interest rates.Matt:
So there could well be situations where you have to be careful in terms of you know, when is it good to actually have the money borrowed? When is it better to pay it back. But it sounds like there's little downside in many cases, looking into the idea of getting one and having some of those options having the ability to maybe keep a little bit less cash for emergency purposes. Well, on that note, Michael Morton, thank you so much for running us through this and teaching me something new.Mike:
Thanks. Thanks for joining us on financial planning for entrepreneurs. If you liked what you heard, please subscribe to and rate the podcast on Apple, iTunes, Google Play Spotify, or wherever you get your podcasts. You can connect with me at LinkedIn for Morton financial advice.com. I'd love to get your feedback. If you have a comment or question please email me at financial planning email@example.com. Until next time, thanks for tuning in. This recording is for informational purposes only and should not be considered for investment advice. Opinions expressed as our of the date of recording. Such opinions are subject to change. We do not guarantee the accuracy or completeness of the data presented here.