How your home’s equity may help in financing college costs
“Back to school” for many parents of college students means back to the bank. How to pay for college costs is a big question, but many homeowners may be sitting inside the answer: their house.
Equity in your home is one potential source of funds to help with college costs. Many homeowners take advantage of the money they have invested in their homes to seek a home equity line of credit, or HELOC. As of June, there were nearly 11 million HELOCs outstanding with total balances outstanding of more than $486 billion, according to the June 2016 National Consumer Credit Trends Report from consumer credit company Equifax.
A HELOC is a line of credit secured by your home that allows you to tap into equity you’ve built up through market price appreciation and principal applied from your mortgage payments. A HELOC provides access to cash, which homeowners have traditionally used for various purposes including home improvements, consolidating debt, and education expenses.
If you’re looking for ways to pay educational costs, don’t overlook a HELOC as one option. Here are a few things to keep in mind:
- HELOC rates tend to be lower than rates on unsecured credit because they are secured by a home, so lenders view them as less risky than other types of credit.
- HELOCs provide flexibility because you can borrow what you need when you need it. And in addition to making monthly payments, you can pay down the balance whenever you have extra cash.
- HELOCs typically have an initial “draw period” when you can tap the line of credit, and the monthly payment is interest-only. This keeps the monthly payment relatively low during the draw period since you are not paying down principal. If you only make the minimum interest-only payments during the draw period, be prepared for a larger monthly payment of interest plus principal once the draw period ends.
- Rates on HELOCs are typically adjustable, and so in a period of rising rates, your monthly payment will likely go up as interest rates rise. The Federal Reserve has raised rates once in the last year; some economists expect at least another increase before the end of 2016 and further hikes in 2017 if the U.S. economy remains strong.
- Similar to a mortgage, interest on a HELOC may be tax-deductible. You can research your own situation – and consult a tax professional — to see if you qualify to deduct the interest payments on a HELOC.
- A home equity line of credit is secured by your home, so the lender has a claim on the property to recover the outstanding balance if you are unable to repay the HELOC. Weigh this risk anytime you consider borrowing against the equity in your home. Ask yourself: Is my income stable? Is it rising, or might it go lower in the future?
- Finally, some lenders (including Bank of the West) offer an option that allows a borrower to fix the rate on all or a portion of the outstanding balance on a HELOC. Many borrowers like this feature to move from the adjustable rate on the line of credit to the predictability of a fixed rate. If you apply for a HELOC, you should ask your lender if this fixed rate loan option is available.
As with any credit product, one of the keys to unlocking the benefits of equity in real estate is understanding the loan product. If you are considering other loan products for college costs — such as a federal student loan or a private student loan — compare the fees and interest rates on your various options.
HELOC rates may be lower than rates on private student loans, but are likely higher than rates on government-subsidized federal education loans. Also, look at the length of time you have to repay the various types of loans. Different loans also have unique tax implications so be sure to consult a tax professional on tax implications of any borrowing decision.