You have equity in your home so it’s available for use, right? Technically it is, but you shouldn’t always use your home equity. How do you know when is a good time to use it?
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There are good reasons and bad reasons. We’ll cover the good here, so you know when you should consider tapping into your home’s equity.
You might wonder, why would it ever be bad to use your home equity? It’s mainly because it’s a lien on your home. You don’t pay the debt, the bank can take your home.
There are even times that you think it might be a good thing, but it doesn’t really pay off. Certain
home renovations are a good example. If they don’t add value to the home, it doesn’t make sense to use the equity in your home to pay for it. Instead, wait until you have the cash available and pay it outright.
Certain Home Renovations
The top reason homeowners tap into their home equity is home repairs and/or renovations. Try to stick to changes that have an effect on your home’s value. A new roof, remodeled kitchen, or bathroom renovations are a few good examples of profitable changes.
Things that wouldn’t affect the value include adding a pool, luxurious (not essential) upgrades, and extensive landscaping. Other examples include any type of cosmetic changes, no matter how much better it makes your home look, it doesn’t add value.
If you are in over your head in debt, you may use your home equity to pay it off. However, there’s a catch. If you are a chronic spender, this might not be the best choice. You should only choose this option if you are capable of putting an end to your spending.
In other words, you can’t rack up your credit cards again. Because you are making an unsecured debt secured, you are putting your home at risk. If you rack up the credit cards again, you have double the debt and a higher risk of losing your home.
The good news is, though, you’ll probably
secure a much lower interest rate. This could allow you to pay the debt off faster. Think of it this way – if you can pay the debt off sooner, say five years or less, go for it. If you will only pay the minimum required payment on your home equity loan and rack up other credit cards on the side, don’t do it.
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Do you have an emergency fund already stocked? If not, you aren’t alone. A home equity loan can be your emergency fund. But, you should leave it alone unless you have an absolute emergency. A major disaster at home, a medical crisis, or an emergency car issue is a few good examples of emergency costs that warrant use of your home’s equity.
Of course, it’s best if you have the money set aside yourself, but not everyone has 6 – 9 months set aside for an emergency. Having that HELOC money ready for you can be a blessing should an emergency strike.
Pay for College
College is costly these days. Yes, there are student loans available, but they come at a cost. The interest rates are often much higher than you could get on a HELOC. Before you jump up and get that HELOC, though, think it through. Can you afford to pay the loan off before you retire? If not, you’ll be stuck with mortgage payments during a time when you should be living debt free.
When you take on the student loan debt for your child, it’s your responsibility. Student loans, on the other hand, are their responsibility. If you crunched the numbers and know how much you must pay each month to pay it off before retirement, go for it. If it’s just a last ditch effort to get your child to college, don’t do it.
Buy Investment Real Estate
If you have enough equity in your home, you may use it to buy investment homes. However, only do this if you know the rent you’ll collect will cover not only the home equity line of credit payment, but also the mortgage on the investment home. You shouldn’t put yourself further in debt just to buy an investment home.
Do your homework and find out what the
average rent in the area you want to invest in is. This way you can determine if you’ll cover your expenses while trying to turn a profit investing in real estate. You also shouldn’t borrow more than 80% of your current home’s value to get yourself started in investment real estate. It’s risky business, but it can pay off if done right.
Taking out a home equity loan can pay off if you do it right. We recommend paying the loan off as fast as you can. Just paying the minimum monthly payment only covers the monthly interest. Instead, make a principal and interest payment, trying to pay the loan off as soon as possible. This eliminates the risk of putting your home at risk for default, but helps you when you need money.
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