Home equity lines of credit: What you need to know
It's one of the fastest growing types of debt in Canada, debt expert says, but caution is needed
The money can be plentiful, relatively easy to get, and hard to resist.
A home equity line of credit can help improve your living circumstances and possibly lead to financial gain.
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But according to an RBC report last week, Canadians' outstanding debt on personal lines of credit hit $266 billion as of April, a 3.2 per cent gain over last year. Yesterday, CBC News featured one Toronto-area couple with two home equity lines of credit totalling $370,000.
Since we're talking about debt that can climb to potentially dangerous heights, it pays for consumers to understand how a home equity line of credit works.
Here are five key things to know if you're thinking about signing up — or if you already have one.
How do they work?
You have to apply with a lender to find out whether you qualify, the Financial Consumer Agency of Canada says on its website.
Home equity is the difference between the value of your home and the unpaid balance of any current mortgage. "Home equity increases with time as you pay your mortgage down and as the value of your home increases," the agency said.
It's easy debt and it's very accessible.— Laurie Campbell
Government rules limit the maximum amount of money available to 65 per cent of a home's appraised value. However, a home equity line of credit can be combined with a regular mortgage for a maximum of 80 per cent of a home's appraised value.
Who has them?
According to the Canadian Association of Accredited Mortgage Professionals, 22 per cent of homeowners — an estimated 2.15 million Canadian homeowners — had a home equity line of credit in 2014. They owed an average of $57,000.
Of that 2.15 million homeowners, about 200,000 owed nothing, or have a "nil" balance.
"Among Canadian homeowners who have [home equity lines of credit], not all the available funds have been accessed," the report found, adding that the average approved line of credit is $135,000, but the actual amount owed averages about $57,000.
"It's easy, accessible cash at a very cheap price. The banks make it so easy for you to obtain it," Toronto software engineer Murad Ali told CBC.
The flexibility can be great, bankruptcy trustee Doug Hoyes told CBC News.
"With a mortgage, everything is fixed. I can't just go back and get more next week and get re-approved," Hoyes said. "Once you've negotiated the [home equity] line of credit and it's set, you can go up to that limit whenever you want."
And as long as you are fulfilling the terms of the loan, there is nothing more you need to do or worry about, said Hoyes of the firm Hoyes Michalos & Associates.
"Generally you can pay as much as you want — as fast as you want — and that lowers your overall interest costs," he said.
Another advantage is that the money available has been cheap to get lately, he said.
"Variable-rate lines of credit have been great the last few years because interest rates have been falling," he said.
Laurie Campbell, a debt counselling expert, also remarked on the current lure of affordable money.
"It's low-interest debt," said Campbell, who is the CEO of Credit Canada.
And, borrowing can pay off, she said.
"In some cases if you are using it to improve your home you could be increasing the value of your home and be farther ahead."
The bank can alter the terms any time they want. It's completely open.— Doug Hoyes
Home equity lines of credit are one of the fastest growing types of debt in Canada, she said.
And they can also be habit forming.
"It may seem innocent enough to start, but it's addictive. You are increasing your cash flow by having the line of credit," said Campbell.
A big worry is that it could take years to pay off a home equity line, and people could wind up "stealing from their financial future," she said.
Another concern is that terms can change with little or no notice, Hoyes said.
"The bank can alter the terms any time they want. It's completely open," Hoyes said.
"The bank may decide: 'We are cutting your limit in half: Instead of $100,000, now it's $50,000.'"
And the interest rate can change, too, Hoyes said. "And there's nothing you can do about it. It's potentially much more risky," Hoyes said. "You are at the mercy of the lender."
The Financial Consumer Agency offers more sobering advice.
"Don't borrow more than you can afford. If you are unable to repay the amounts you have borrowed, plus interest, you could lose your home."
What people may not consider
The main reason to take out a home equity line of credit is to get the money, use it, and then pay it off, Campbell said.
"Have a very specific purpose for it and a very specific course of action to repay it within a very specific time period," she said.
Also, before you take on this kind of debt, or any debt, Campbell suggests thinking twice about whether you really need it.
Hoyes warned that the more debt you have, the less flexible you are.
"If you have a house with no mortgage on it and you want to move to the other end of the country, you can sell your house and move. If you have a mortgage and a home equity line of credit, now you have to make sure you sell the house for enough that you can pay off all the debts against the house."
And life has a way of changing unexpectedly.
"We don't assume that we will ever lose our job, get divorced, get sick, that real estate prices will always go up — not down, that interest rates will go down — not up," he said.
"Everything is great right now," he said.
But we can already find "a cautionary tale" in places like Calgary and Fort McMurray, Alta., he said, since house prices in both places have come down considerably.
As well, Campbell said, be mindful of one other thing, even if you have a great relationship with your bank.
"The bank is a business. The bank is going to do what they need to do" she said.
"And if you are behind with your payment, things could get ugly."