As you begin the home-buying process, you’ll face numerous financial decisions. And while you may be familiar with a mortgage — and what it takes to qualify for one — it’s not the only option to finance a new home.
For instance, a home equity line of credit, or HELOC, is an adjustable-rate loan. Unlike a fixed-rate mortgage, a HELOC in Canada doesn’t have an amortization period (the length of time it will take you to pay off your entire mortgage) or penalties for paying off the loan early.
If you already own a home or are looking into buying one, a HELOC could be a great financial option for you. Here’s a look at how locking down a HELOC could be beneficial.
HELOCS for Homeowners
Do you already own a home but want to move into something else? If that’s the case, use a HELOC to access your home equity and find the great mortgage rates in Ontario you need. The more equity you have in your home, the more you’re able to borrow. You can then use this money to put a down payment on your next home.
With a fixed-rate or variable mortgage loan, you could pay interest long before you found your new home. But, unlike these traditional loans, you don’t pay on the HELOC until you use it. House hunting takes time, but a HELOC can help you avoid payments if you leave it at a zero balance as you begin your search. The money will be there when you need it, but it won’t cost you until you do.
A HELOC could prove handy as you begin the home shopping process. When you sell your home, the HELOC must be repaid in full before you close on the next home.
HELOCS for New Home Buyers
First-time homeowners can finance a home entirely with a HELOC. But the down payment requirement jumps to 35 percent. Why? That’s because a HELOC can’t be more than 65 percent of a home’s value (or purchase price). Yet, a lender can package the home equity limit with the remaining mortgage balance. That bumps it up to 80 percent of your home’s value.
A HELOC can be a great tool to get the down payment for your next home fast, especially if you plan to pay it off fast. In this situation, a HELOC can serve as a second mortgage.
Qualifying for a HELOC
Lenders will take a close look at your debt-to-income ratio. The acceptable amount of your debt-to-income can vary by financial institution, but is often falls around 40 percent to 50 percent.
The Office of the Superintendent of Financial Institutions requires a stress test. It’s a way to protect new and potential homeowners from taking on too much debt and defaulting on their loan.
A good credit score is a requirement for any home loan. For home equity loan approval, a credit score over 740 will qualify you for the best rates. If your credit score is 650 or less, you may not be approved until you can raise it.
Weighing Your Options
Consider a home equity line of credit as a tool similar to a credit card: it’s there when you need it. But, if you opt for a HELOC, you don’t want to treat it like a ready source of cash. Resist the temptation to use your home equity for little things like groceries or trips.
This loan takes away the equity in your home, and homes typically gain in value over time, so treat it like the long-term investment it is. Using your HELOC as a short-term cash flow solution can result in problems later. Keeping up with payments could become a problem.