15 Oct 2015
Mortgage vs HELOC – Do You Know The Difference?
Today, with the Internet, we all have an abundance of information literally at our fingertips. Despite the information available many homeowners have limited knowledge about the mortgage process and products. Their lack of knowledge can turn out to be costly. Homeowners should know the difference between a conventional mortgage and a Home Equity Line Of Credit (HELOC).
A conventional mortgage is a registered charge against your home. There is a set term – 6 months to 10 years and an interest rate can be either a fixed or variable rate. Payments include principal and interest. Many homeowners choose a fixed rate as it is easier to set budgets knowing the interest rate won’t change during the term chosen. Variable interest rates will change as Prime changes. With a solid strategy in place, choosing an interest rate will be simple. If you have less than a 20% down payment (equity) the maximum amortization is 25 years. More than 20% down and a 30 year amortization is available. You can purchase a home with as little as 5% down (maximum purchase price $999,999).
A HELOC is a secured line of credit also registered as a charge against your home. This charge can be in first position but generally is added after the fact behind a conventional mortgage. Some lenders will not permit another charge on title. Like any line of credit, a HELOC is fully open and you can borrow and re-borrow. The interest rate is tied to Bank Prime and may fluctuate. Government regulations stipulate that a HELOC cannot exceed 65% of the value of your home, unless in second position, in which case you can borrow to 80% of the value and qualifying must be done using the 5 year posted rate (4.64%) with a 25 year amortization. Payments can be as low as interest only but that is truly the never-never plan for repayment. Any spikes in interest rates can throw off the most dedicated budgeters!
If used responsibly and with a sound strategy, a HELOC can have many advantages. Purchasing investments with a HELOC creates a tax deduction for interest paid. Renovating your home with a HELOC allows you to draw from it when you need it, only paying interest on the money used. Your children’s education, buying a boat or the down payment for a recreation property can all be facilitated with a HELOC. A HELOC can be a great tool for investments, renovations and short term financing needs. Anything longer term, however, is often cheaper to choose a conventional mortgage with a variable rate. The difference in the lower interest rate outweighs the flexibility of the HELOC.
Most people when buying a home take a conventional mortgage with a fixed term and rate. The astute homeowner understands the power of a conventional mortgage combined with a HELOC. Understanding your needs together with a strong financial strategy can turn your largest debt into your greatest asset!