It looks like the low interest rate environment is here to stay for the foreseeable future. The sad reality is Canada’s economy just isn’t recovering from the sudden drop in oil prices as economists had predicted… we have wide spread economic indicators showing a series of weak areas of the economy.
Home Equity Lines of Credit (HELOC)
With interest rates showing no signs of heading up anytime soon (see Bank of Canada most recent rate announcement commentary: http://www.bankofcanada.ca/core-functions/monetary-policy/key-interest-rate/
Canadians are piling on household debt like never before. With home prices steadily rising for many years, it shouldn’t come as any surprise a lot of people’s net worth is tied up in their principal residence.
A home is no longer just a place to live; it’s an investment. This has homeowners taking out Home Equity Lines of Credit (HELOCs) in record numbers. The low interest rate isn’t the only culprit. The all too common shift to people believing they are entitled to luxury living is partially to blame; it has homeowners spending a record $63 billion in home renovations. While a remodeled kitchen or bathroom is nice, it doesn’t come cheap. It costs tens of thousands of dollars and most aren’t pulling that from their bank account.
HELOC vs. Variable Rate Mortgage
With low rates here to stay, many homebuyers are deciding to tap into the equity in their homes with a HELOC. While a HELOC makes sense for some, have you ever considered a variable mortgage conversion? A variable mortgage conversion is perfect for those for those who like staying on a variable rate and who plan on keeping the funds outstanding for a longer period of time. Variable rate mortgages have a distinct advantage over HELOCs. You don’t have to be a math expert to see the savings opportunity. The interest rate on HELOCs is typically prime plus 0.5%, while you can find variable rate mortgages for approximate prime less 0.5%.
Not only are HELOC rates higher than variable mortgage rates, your lender can change your HELOC rate at any time. Although prime typically doesn’t budge until there’s a change in the overnight lending rate by the Bank of Canada, you could find yourself paying a higher HELOC rate.
Here’s why: with variable rate mortgages you’re guaranteed a spread prime +/- for a set period, but with HELOCs you aren’t guaranteed that same spread. For example, you could have a variable rate mortgage at Prime -0.5 percent; in that case your mortgage rate will only change if your lender changes prime rate (or at the end of the term). Although most HELOC borrowing today are prime +0.5 to prime plus 1% percent, you lender can technically change that at any time. Don’t think it could happen? Even though prime rate has only budged once in the last five years, plenty of lenders have raised their HELOC rates to boost profits on dozens of occasions.
Borrowing to Invest
Many people keep a HELOC because they think borrowing to invest must be done in the form of a HELOC. The fact is that it is that is it what you borrow for and not what you borrow against that matters Although variable rate mortgages are more work to qualify for, they’re worth it for the savings in interest you’ll get. While HELOCs are secured against your property, variable rate mortgages need a mortgage application and down payment. If you’ve built up at least 20 percent equity in your home and you’re looking to finance costly home renovations, consider applying for a variable rate mortgage first. You can save tens of thousands of dollars in interest over the life of your loan.
With personal income tax rates on the rise, the after tax cost of borrowing for investment borrowing just got much more attractive. For earners in the top tax brackets your after tax cost of borrowing is now so low that even someone with little or no investment knowledge can create an after tax rate of return greater than your after tax cost of borrowing. In fact – getting rich with OPM (other people’s money) has never been more compelling.
If you have a large HELOC or a borrowing to invest question then call us today at 416-410-9905 and we will put a plan in place to increase your cash flow and grow your net worth – we guarantee it!