One of the major issues encountered by investors who are just starting out in the world of real estate investment in Canada is a lack of capital. To be sure, if you hope to make the most of your real estate portfolio, you’ll need a dedicated amount of capital to get the ball rolling. For some investors already to count themselves as a homeowner, a home equity line of credit can seem like the perfect solution.
Table of Contents - Should You Use a Home Equity Line of Credit?
What Is a Home Equity Line of Credit?
Put (very) simply, a home equity line of credit, or HELOC, is a secured loan from a financial institution based on the purchase price or market value of your home. Most commonly, HELOCs come in one of two varieties:
This version of a HELOC combines bases your loan amount on the amount that you’ve paid into your mortgage. As you pay down your mortgage, the value of your home equity line of credit increases. This product allows you to borrow up to 80% of your homes value.
A standalone home equity line of credit isn’t based on your mortgage. Instead, the amount you can borrow for a standalone HELOC is based on either the purchase price or market value of your home (depending on which lender you consult). This product allows you to borrow up to 65% of your homes value.
A Revolving Line of Credit
A HELOC is often referred to as a revolving line of credit. That brings with it several advantages. For example, when you establish a HELOC with a lender, you don’t have to use the entire amount available. What’s more, you only get charged interest on the amount you withdraw. As you repay your HELOC, you’re able to withdraw from the available amount once more, sort of like a credit card account.
Both of those factors could help investors in need of a quick source of capital that they can repay in short order. That said, it’s essential to understand that the interest rates associated with most HELOCs are variable. In other words, your lender can change the interest rates associated with your HELOC at any moment, and there’s little recourse you can take.
Investment advisor Amy Dietz-Graham explains that the best strategy is to remain prepared, “and make sure you’ve got enough cash on hand, so you’re not in a situation where you’re not able to make the payments.”
Interest Rates Are Often Low
For those investors who hesitate to use a HELOC for fear that interest rates may skyrocket at a moment’s notice, it’s worth taking some time to study the facts and acquaint yourself with the market trends.
If interest rates were to go up suddenly, the Bank of Canada would, more often than not, keep the increases marginal. For example, let’s say you’ve got a $100,000 HELOC, and the rates are increased half a percent (which would be pretty dramatic, by the way). Assuming that you are only paying the minimum amount every month to keep up with interest payments, you can expect your monthly payment to increase about $40. That’s inconvenient, but it will hardly break the bank. In practice, the Bank of Canada trades on the fact that a robust economy thrives with low-interest rates. In dire economic circumstances, the Bank of Canada drives interest rates down to stimulate economic growth.
You should never acquire a HELOC without reading every word of the fine print and shopping around a bit, but it’s also worth noting that extremely high-interest rates aren’t good for anyone, not even your lender.
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It’s best for beginners
The optimal time to put your HELOC to work for you is early in your investment career. First and foremost, the more advanced your real estate portfolio, the less likely you are to qualify for a HELOC on your primary residence. Those investors with several properties who find themselves short on capital would likely be best served to wait and accrue more funds rather than take out a HELOC.
Scott Dillingham, Mortgage Agent with LendCity Mortgages says that the best philosophy is to “Ask for money when you don’t need it. When someone says, ‘I’ve used up all my cash, now I want to tap into my home equity,’ possibly it could happen. But an optimal setup most likely would have happened earlier in [the client’s] portfolio.”
Save money at tax time
One obvious benefit of using your HELOC is the tax implications. The Canadian Revenue Agency allows for a tax benefit for those homeowners who use a HELOC to purchase an investment property. In these cases, the interest on your HELOC is tax-deductible. Any part of your HELOC that’s used for something besides investment is not tax-deductible and should not be added to your tax deduction.
Experts warn that any time a homeowner takes an investment interest deduction, they’re often put under “the spotlight” by the CRA. That shouldn’t be an issue if you keep accurate records when using your home equity line of credit for investment purposes.
HELOCs act as a second mortgage for your residence when it comes down to it. If you’re not convinced that a home equity line of credit is right for you, there are alternatives.
Veteran investors who may not qualify for a HELOC could get their capital from a standard home equity loan or a cash-out refinance of their primary home. Just be sure to do your homework first.
Rookie investors who want to get in on the action of real estate investment in Canada can try out collaborative ventures with a pool of other investors in need of capital. While you search for the right investment, however, it’s important to continue to make connections and research your local market. Even without a huge capital influx, you can still advance your real estate career.
Home Equity Line of Credit - HELOC
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