Home Equity Lines Of Credit And Readvanceable Mortgages Explained
When it comes to accessing the equity in your home, you have different options to acquire it. Two common ways to do this are through home equity lines of credit (HELOC) or readvanceable mortgages. Both options allow you to easily tap into your home equity and offer HELOC services. For a better understanding of this, mortgage broker Boychuk Mortgage Group have explained these two lending products in this blog.
What Is A HELOC?
Every time a homeowner makes a mortgage payment on their house, the amount of equity they have in their home increases. This means that money locked in this physical asset (that is, the house) increases. Home equity also goes up when the market value of a house increases. This usually happens when there is a general rise in prices in the Canadian housing market or when one renovates or improves the place.
Now to convert one’s home equity into cash, one can borrow money using a home equity line of credit (HELOC). The equity will be used as collateral to loan the homeowner cash. So the HELOC is secure by the house, allowing one to borrow a large sum at a lower rate. These factors make a HELOC different from a personal line of credit, which is maybe unsecured, has a high-interest rate, and provides less funds.
How Do HELOCs Work?
When applying for a HELOC, a credit limit is set based on the appraised value of the borrower’s home. The borrower’s debt and credit history also affect the credit limit of a HELOC. Major banks offer a limit of 80% of the value of the home, including the existing mortgage and the borrower’s potential HELOC. On its own, a HELOC can not exceed 65% of the value of the borrower’s home in Canada.
Once the borrowing limit and terms are set, the borrower can draw as much money as they need. Most HELOC lenders offer access to HELOC funds at any time via ATM, online banking, and cheques. Some lenders also allow the use of HELOC funds via debit or Visa access cards.
The funds withdrawn can be repaired at any time, and interest is payable only on the amount utilized. However, after the HELOC’s draw period (as mentioned in the agreement), the borrower will need to start repaying the money borrowed.
What Is A Readvanceable Mortgage?
Readvanceable mortgages are a combination of a HELOC and a mortgage. As the homeowner makes payments towards their mortgage, the credit limit of their line of credit increases. This enables them to borrow more money as they repay their mortgage.
A readvancable mortgage can be used in the Smith Maneuver. It allows borrowers to save in taxes by making the mortgage interest deductible. For this, the mortgage must be converted into an investment loan by investing in the line of credit part of the readvanceable mortgage.
How Does A Readvanceable Mortgage Work?
The credit limit of a HELOC available under a readvancable mortgage is determined by the mortgage payments made. Major banks offer a maximum credit limit of 65% on the borrower’s home value. On the other hand, some credit unions are willing to offer a credit limit of up to 80%.
Under a readvancable mortgage, each of their mortgage payments will be split into two parts. One portion will cover the mortgage principal, and the other will cover the interest. The more money put towards paying off the principal, the higher the HELOC credit limit will be, without any need for home appraisals or extra legal fees.
For example, if a homeowner makes a monthly mortgage payment of $1,000, approximately $700 will pay for their principal and $300 for their interest. This will automatically increase their HELOC credit limit by $700, allowing them to re-borrow $700 when they need it.
There are some banks that require the borrower to have a bank account with them to transfer money between their mortgage or HELOC and their bank account. If this is not a requirement, borrowers can withdraw cash from their HELOC using a HELOC cheque.
When Is It A Good Idea To Re-Borrow Money That Has Been Paid?
If a homeowner is looking for financial flexibility, using a readvanceable mortgage is very helpful. They don’t have to borrow money from the line of credit if you don’t need it. Instead, the credit is there for them to use at any time. For example, if they have a sudden unexpected expense or need access to money quickly. Having a readvanceable mortgage already open reduces their worries about applying for loans or fussing over a mortgage refinance when they already have access to home equity.
Similarly, if an individual is looking to save on their taxes, they can use the Smith Maneuver with their readvancable mortgage. It involves turning the line of credit portion into an investment loan. By re-borrowing money that has been paid, borrowers can transform their mortgage into a tool to save for retirement, all the while saving on their taxes.
If you’d like to learn more about these credit options, reach out to Boychuk Mortgage Group today! We are a dedicated and accredited mortgage brokerage in Burnaby, British Columbia. We work with well over ninety lending institutions and have access to over five hundred mortgage products to suit a broad range of needs. We know what these lenders are looking for and will do our best to help you meet their criteria so that you can obtain the mortgage that you want.