HELOC Strategies: Paying Off Debt vs Investing in Your Home - Online Income Generation, Income Growth Strategies, Freelancing Income  
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Though you may be a proud homeowner, you undoubtedly dislike the idea of having to make a mortgage payment every month for the next few decades. However, given how well the stock market has recently performed, you may feel as if you’re losing out by not investing more.

So, what is the appropriate answer: should you pay off your home loan early or invest the extra money? Here’s what you should know before you make a decision.

You probably dream of the day when you no longer have a home loan payment hanging over your head. Being debt free is an admirable goal, but it might not make the most sense financially. Especially now, with mortgage rates so low, it’s cheap to hold debt. That leaves the opportunity to grow your wealth more through other investments.

Let’s take a look at an example. Say you have a 30-year home loan of $200,000 with a fixed rate of 4.5%. Your monthly payments would be $1,013 (not including taxes and insurance), according to the mortgage calculator, and you’d spend a total of $164,813 in interest over the life of the loan.

Now let’s say that you’re able to come up with an extra $300 per month to put toward your home loan. You’d shave off 11 years and one month from your repayment period, plus save $67,816 in interest.

On the other hand, you could take that $300 per month and invest it in an index fund that tracks the S&P 500 Index instead. Historically, the S&P 500 has returned an average of 10% to 11% annually since its inception in 1926 through 2018. If you want to be extra conservative, however, we can assume an average annual return of 8% on your investment.

At the end of 19 years (about the length of time it would take to pay your home loan early), you would have $160,780. That’s more than double your potential interest savings. In fact, after that length of time, you’d have about $105,487 left on your home loan. If you decided to pay your mortgage early after all, you could use your investment funds and still have $55,293 left over.

Read Also: The Tax Implications of HELOCs: Maximizing Your Benefits

From a financial perspective, it’s usually best to invest your money rather than funnel extra cash toward paying your home loan off faster. Of course, life isn’t just about cold, hard numbers. There are many reasons why you might choose either to pay your mortgage early or invest more.

Pros and Cons of Paying Off Home Loans Early

From a financial perspective, it’s usually best to invest your money rather than funneling extra cash toward paying off your mortgage faster. Of course, life isn’t just about cold, hard numbers. There are many reasons why you might choose to either pay your mortgage early or invest more.

Here are some reasons why you may—or may not—want to consider paying off your mortgage early.

Pros

  • Interest savings: This is one of the biggest benefits of paying your loan off early. You could save thousands or tens of thousands of dollars in interest payments. When you pay your mortgage early, those interest savings are a guaranteed return on your investment.
  • Peace of mind: If you don’t like the idea of constant debt, paying your mortgage early could ease your burden. If you experience a financial emergency, having a home that’s already paid off means you don’t have to worry about missing mortgage payments and potentially losing the home to foreclosure. You still will be responsible for property taxes as long as you own the home, but that’s a much smaller financial responsibility.
  • Build equity: Paying down your mortgage faster means building equity in your home more quickly. This can help you qualify for refinancing, which can save you even more money in the long run. You may also be able to leverage your equity in the form of a home equity loan or home equity line of credit (HELOC), which you can use to make improvements that increase your home’s value or pay off other higher-interest debt.

Cons

  • Opportunity cost: Any extra money you spend on paying down your mortgage faster is money you aren’t able to use for other financial goals. You may be paying off your mortgage early at the expense of your retirement savings, emergency fund or other higher return opportunities.
  • Wealth is tied up: Property is an illiquid asset, meaning you can’t convert it to cash quickly or easily. If you faced a financial emergency or had an investment opportunity you wanted to jump on, you’d not only have to sell your house, but also wait until a buyer was available and the sale closed.
  • Loss of some tax breaks: If you choose to pay down your mortgage instead of maxing out your tax-advantaged retirement accounts, you will give up those tax savings. Plus, you may lose out on tax deductions for mortgage interest if you normally itemize.

Pros and Cons of Investing

Investing your extra cash instead of paying off your mortgage early has some benefits and drawbacks. Here are the main ones to consider.

Pros

  • Higher returns: The biggest benefit of investing your money instead of using it to pay down your mortgage faster is the ROI. For many years, average stock market returns have been significantly higher than mortgage rates, which means you stand to gain quite a bit from the difference.
  • Liquid investment: Unlike a home that ties up your wealth, having your money in stocks, bonds and other market investments means you can easily sell and access your money if you need to.
  • Employer match: If you choose to invest your extra funds in a retirement account and your employer offers a match, that’s additional free money that you get to enjoy compound earnings on over time. You’d also be investing pre-tax dollars, which could help you afford larger contributions.

Cons

  • Higher risk: There is more volatility in the stock market than in the housing market year over year, so you should be sure your investing timeline is long enough to weather ups and downs. You also need to make sure that your investment strategy matches your risk tolerance and you’re mentally prepared to take some hits.
  • Increased debt: Choosing to invest your money may not be the best option if you don’t like the idea of having debt to your name. Until your mortgage is repaid, you don’t actually own your home—the bank does. And there will always be some risk that you could lose your home if you aren’t able to make the payments.

If you’re still on the fence about which option is best, you may not need to choose between paying your mortgage early and investing. Rather, you can take a two-pronged approach to reducing your debt and growing your wealth.

Mortgage rates are at historic lows, which means it’s a great time to refinance. If you took out your mortgage or last refinanced years ago, it’s likely that you can save quite a bit of money by refinancing to a lower interest rate and/or reducing your mortgage term length. That’s true whether or not you also choose to pay down the loan more aggressively. Just be sure to factor in closing costs when running the numbers.

With your newfound mortgage savings in place, you can go ahead and invest, too. This allows you to spend less on your mortgage overall while still taking advantage of the higher returns of the stock market.

If you have a low mortgage rate, it may not make sense to pay off your mortgage early when you could invest that money instead. Your investment returns could be double what you’d save by not paying as much mortgage interest. Also, mutual fund and ETF investments give you more liquidity than locking up your money in your home equity.

For guaranteed savings and the security of owning your home debt free, paying off your mortgage earlier is a better option than investing your extra cash. It’s also a good option if your mortgage rate is comparable to the investment returns you would earn, especially if you would be investing in a fully taxable brokerage account where your net returns would be lower than a tax-advantaged retirement account.

Is it Wise to Use HELOC to Pay Off Debt?

With a HELOC, you’re essentially borrowing money against this equity. It’s like having a credit card that’s backed by the value of your home. 

Here’s how it works: Once you’re approved for a HELOC, you’re given the maximum amount of money you can borrow. You can then borrow from this line of credit as needed, similar to how you use a credit card. You’re only required to pay back the amount you borrow plus any interest that accrues. 

One unique feature of a HELOC is that it usually has two phases: a draw period and a repayment period. 

  • The draw period is when you can borrow money from your HELOC for debt consolidation, home improvement projects or just about anything else. This period could last several years, during which you’re often solely required to make interest-only payments. 
  • After the draw period ends, you enter the repayment period. This is when you can’t borrow any more money from your HELOC, and you must start repaying the principal along with accrued interest. Repayment periods typically last 10 to 15 years. 

Because HELOCs use your home as collateral, they often have lower interest rates than credit cards. But be cautious: If you can’t make the monthly payments, you could risk losing your home to foreclosure.

Using a HELOC To Pay Off Credit Card Debt

If you have equity built up in your home, you can consider using a HELOC to pay off credit card debt. When you have multiple credit card debts with different due dates and payment amounts, it can get confusing and difficult to keep track of them all. 

By consolidating these debts into a single HELOC, you simplify things. You make one monthly payment to the HELOC, which covers all your credit card debts. This streamlines your payments and makes budgeting easier.

Using a HELOC can also help you lower interest costs. Credit cards often come with high-interest rates, making it tough to make real progress on paying down your debt. But with a HELOC, the interest rates are usually lower. This means more of your payment can go toward reducing the actual debt rather than just covering interest.

HELOCs aren’t a guaranteed solution for fixing your financial situation. Consider these pros and cons before you use a HELOC to pay off your credit card debt.

Pros of Using a HELOC for Credit Card Debt

  • Lower interest rates: HELOC interest rates are generally lower than credit card interest rates. HELOC rates currently range between 7% and 9%, according to Experian, while the most recent average rate on credit cards stood at 21.2%, according to the Federal Reserve.
  • One simplified payment: Consolidating your credit cards into a single HELOC payment can take away the headache of having to juggle multiple credit card payments every month.
  • Flexible repayment terms: You can typically choose to make principal and interest payments or interest-only payments during the draw period. This flexibility can give you more control over how quickly you pay off your debt depending on your unique situation.

Cons of Using a HELOC for Credit Card Debt

  • Puts your home at risk: You use your home as collateral for a HELOC. If you can’t make the payments, you could potentially face foreclosure and lose your home.
  • HELOCs usually have variable interest rates: While HELOCs typically have lower interest rates than credit cards, the interest rate is still usually variable and can change over time. Your lender will reset the rate periodically based on market conditions. This can make it difficult to budget for the monthly payments.
  • Lender fees may apply: Some lenders charge fees for opening a HELOC, such as application fees, appraisal fees and closing costs. These fees can add up and make the cost of using a HELOC more questionable.
  • Watch out for balloon payments: If you don’t manage your HELOC monthly payments properly, you could be hit with a large “balloon payment” at the end of your repayment period. This large payment can trap you in a cycle of debt if you can’t pay it off or, worse, could result in losing your home.

If you don’t want to use a HELOC to pay off credit card debt, consider the following alternatives.

Debt Snowball or Avalanche Method

Your first option is to keep your credit card debt as-is and use a debt repayment strategy to pay it off. There are two popular strategies you could use to pay off debt: the debt snowball method and the debt avalanche method. 

With the debt snowball method, you start by paying off your smallest credit card debt first while making minimum payments on the others. As you pay off each debt, you move on to the next smallest. This approach can build momentum as you wipe out smaller debts early on.

The debt avalanche method is slightly different because you start by paying off the debt with the highest interest rate first. You put any extra money toward the highest-interest credit card while making minimum payments on the rest. This method may save you more money on interest because you’re tackling the most expensive debts first.

These methods might be better than using a HELOC if you’re determined to pay off your credit card debt without risking your home. Neither involves taking on new debt, and both can help you build financial discipline. The biggest downside is that you miss out on the opportunity to potentially lower your interest rates.

Balance Transfer Credit Cards

A balance transfer card is a credit card that lets you move your existing credit card balances onto it. It often has a promotional 0% APR period where your balance doesn’t accrue any interest. This can give you a little bit of breathing room, so you can focus on paying down what you owe. 

But these cards often have balance transfer fees, and the low-interest rate doesn’t last forever — it can generally last anywhere from six to 21 months, according to our research. If you don’t pay off the balance within the promotional period, the interest rate can jump significantly. 

Additionally, most balance transfer cards require a good credit score to qualify. So, while they can be a useful way to save money on interest and pay down your debt faster, lower credit scores could be a limiting factor.

Bottom Line

A home equity line of credit can help you achieve financial goals such as debt consolidation, which may include paying off your mortgage. With this technique, you essentially use your home’s ownership stake to pay off the remaining balance. However, you will still need to service your HELOC loan.

So, this strategy only makes sense if you can obtain a much lower interest rate on a HELOC than you now have on your home loan. However, with current interest rates, HELOCs are no longer super-cheap: the costs are likely to outweigh the benefits, so you’d be better off waiting before implementing the HELOC plan.

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