HELOC (Home Equity Line of Credit) - How to Use
Your clients may want to consider a Home Equity Line of Credit (HELOC) to either fund their retirement or to finance other expenses.
Below is a case study that illustrates how to enter this specific situation in Snap. For general steps on how to borrow against an asset in Snap, please see this article: Line of Credit - Borrowing Against an Asset.
In the example below, John would like his HELOC to provide $6,000 annually in order to fund his retirement.
To model this situation in Snap:
Create a new loan in the Debts Section with the HELOC details as shown in the image below. Remember to keep the Balance at $0, enter the Interest Rate, and choose Interest Only from the Repayment Options. By linking the house to this loan under the Real Asset column, this loan will be automatically paid off if the house is sold in the projections.
On the Planning page, you will now see columns for Amount Owing and Amount Paid for the HELOC (Debt).
Enter the amount that the client is withdrawing for each of the years. You can use the copy-down feature for easier data entry.
Remember to enter the amount being taken out as a negative number. Run the scenario.
Notice how the Amount Owing increases as the money is borrowed for the HELOC.
Snap assumes that the money is withdrawn at the beginning of the year (the -$6,000), while the Amount Owing is the balance at the end of the year. This is why the Amount Owing in the first year for example is higher than what was borrowed because interest has been factored in.
In this case, all interest is capitalized going forward. In the example below, the client is borrowing a net new amount of $6K each year. This is capitalizing their interest and building up the total debt at a faster rate than the $6K of new borrowing.
The way to think about this is that the client has borrowed $6,180 and then paid $180 in interest. So their net spending of overall cash flow from the debt is $6K, but their total amount owed at the end of the year is $6,180. Then in the second year, they borrow $6,365 and pay $365 in interest.
The idea of paying interest on a HELOC is a bit of a formality since you can just borrow the money, put it into the chequing account and then pay the interest. So what we're interested in from a modelling perspective is how much of the money coming from the HELOC is available for spending purposes, and that's what the Amount Paid column represents.
You will need to keep an eye on the Amount Owing for the HELOC. There is no constraint in the software to limit the total loan to a certain percentage of the home's value.
Making Monthly Payments:
If the client is done withdrawing funds from the HELOC and would like to start paying the debt off, you can enter the monthly payments made towards the HELOC by entering them in the Debts section.
You will now see a positive number in the Amount Paid column on the Planning page in the years where no borrowing was done. In the example below, the client is paying back $7,200 per year on the loan annually.
Making a Lump Sum Repayment:
Your client can also make a lump sum payment in a given year to pay off the loan completely. To do this:
1. Look at the amount owing for the year that the client wishes to pay off the loan. In the example below, the amount owing is $26,005.
2. Enter a higher amount than this amount owing in the Amount Paid column to cover this amount as well as any interest that would accrue that year. In the example below, we enter $40,000. Make sure to run the scenario to update the calculations.
Notice how the Amount Paid was automatically adjusted from $40,000 to $33,205 to bring the Amount Owing to $0.