HELOCs gain popularity as owners seek extra cash

Last month, Dennis Shirshikov and his wife, Natalie, decided they needed to remodel the kitchen, siding and roof of their home in Greene, New York. Then they began to calculate how to afford it.

“Our house was built in 1851, so there’s always something to update,” says Dennis Shirshikov, who works as a strategist at real estate investment firm Awning.

Even if they wanted to use the equity they had built up in their home, a cash refinance was out of the question. They had locked in a 3.25% interest rate on their mortgage, and refi rates were already much higher. In addition, it would have extended the term of their mortgage.

In the end, the couple opted for a home equity line of credit, or HELOC.

“We didn’t want to be stuck holding the money and paying interest if the work was delayed,” says Dennis Shirshikov. “The HELOC gave us the most flexibility.”

They had good reason to take advantage of the increase in value of their home. Thanks to market conditions, home equity gains are at record highs. In fact, owners earned a record total of $18.4 trillion in equity in the first three months of 2022, according to the latest credit industry insights from TransUnion. report. That’s about $233,000 per owner.

HELOCs in particular have grown in popularity, growing 41% year over year.

How a HELOC works

Home equity represents the value of what you own directly in your property. You can calculate your equity by taking the fair market value of your home and deducting any liens, such as mortgages or other types of credit that use your home as collateral, attached to the home.

A HELOC is a loan secured by your home. In order to qualify for a HELOC, the homeowner generally must have at least 15% to 20% equity in their home, a credit score of at least 640, and a debt-to-equity ratio below 43%. Once you’re approved, the “loan” actually functions as a revolving credit account, like a credit card. You can use all or part of the money for any purpose or leave it as an emergency fund.

The big advantage of a HELOC over a home equity loan, for example, is that you only pay interest on the amount you actually use, not the entire line of credit.

In contrast, the interest rate on a HELOC is usually adjustable. Although the initial rate may be low, there is always the risk that it will increase several times over the life of the loan. (You should learn more about the pros and cons of HELOCs and how to qualify before deciding if this is the right choice for you.)

HELOCs got a bad rap in the aftermath of the Great Recession, says Michele Raneri, vice president of U.S. research and consulting at TransUnion. Homeowners who took out home equity loans and lines of credit on overvalued properties found themselves underwater when the market crashed.

Since then, however, they have made a comeback, especially now that current mortgage rates have risen by 2 percentage points. Tapping into equity acquired over the past two years may be a more affordable option for accessing cash than refinancing, getting a personal loan, or using credit cards.

“It’s actually a good tool when considered for the right reasons,” Raneri says, adding that it “allows you to withdraw some of your capital and use only what you need.”

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Why use a HELOC

Your HELOC doesn’t have to go toward a home-related expense. You can use a line of credit to pay for a variety of expenses, including tuition or to pay off higher-interest debt.

In a 2021 survey by Credit Karma, 41% of homeowners who took out a line of credit did so to do renovations, says Andy Taylor, vice president and general manager of home at the personal finance firm. The appeal has only increased this year: in April, HELOC activity increased by 65%, the highest number of such lines of credit created in the last 10 years.

But home renovations weren’t the only reason people opted for HELOCs. In the Credit Karma survey, 31% of respondents said they had used a HELOC to pay for unexpected expenses. Another 27% took out the line of credit to pay for necessities like groceries, utilities and other bills.

“It exemplifies the ‘tale of two cities’ that has persisted throughout the pandemic,” Taylor says, referring to the uneven impact of COVID-19 on the lives of Americans. While some homeowners have been able to make their homes more comfortable or better suited to their needs, he adds, others “have been forced to use a HELOC as a lifeline.”

Now, with inflation approaching 40-year highs and economists wondering if we’re in a recession (or heading into a recession), more homeowners may be turning to HELOCs as a hedge against what could go wrong in the future.

This uncertainty about the future is what motivated Trave Harmon, CEO of Triton Technologies, to take out a line of credit on his home in Plainfield, Connecticut. Harmon has excellent credit and very little debt, but decided to use some of the equity in his property as a safety precaution.

“The economy is changing, and insurance companies won’t pay you if you have low income or don’t have a job,” Harmon says. “So I took out a HELOC now just in case something happened.”

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