For homeowners who may be interested in
expanding their financial portfolios, there’s the possibility of purchasing a
second home without putting as much cash down upfront. How is this possible?
With a credit union HELOC, you could have enough to put down on another home,
either using it for a rental income or moving into it and turning your first
home into a rental property. If you have a partial down payment and need to
supplement it, a HELOC might be the right choice for you.
Is a HELOC?
A HELOC is a home equity line of credit, or a
loan based on the worth your home has accrued over time. The amount of money
you could be approved for in a HELOC coincides with the overall amount you owe
on your mortgage and how much your home is worth now. Let’s take a quick look
at an example to understand the math behind the loan and the process.
Let’s say you’ve purchased your first home for
$200,000 with a loan for $160,000. So far, the mortgage has been paid down to
$120,000. The house has also appreciated to $240,000. You can now get a credit
union HELOC for up to 85 to 95 percent of the first home’s value. For our
example, we’ll use 90 percent.
Ninety percent of $240,000 is $216,000. Take
away the existing outstanding loan amount ($120,000) from the home, and you’re
left with $96,000 that can be applied as a down payment on the purchase of
another property. It can’t all be taken out at once, but a portion of it could
be used toward another property.
Property or Second Home: How to Decide
When you’re deciding if you want the purchase
of this other property to be used as an investment property or a second home,
the lender who reviews your application is going to look very closely at your
debt-to-income ratio in order to determine if you’re a good candidate for this
type of loan. One of the main things they want to look at is your potential
ability to manage two mortgage payments. A lower debt-to-income ratio is better
for two reasons. First, a lower debt-to-income ratio means you can qualify for
a better interest rate on the loan, and second, lenders like to see a
debt-to-income ratio of less than 36 percent.
When looking at the lenders out there, start
with the lender that you’re currently working with for your first mortgage. The
fact is, you already have a working relationship and they may be able to work
with you just based on knowing you and your financial history. That said, it
doesn’t hurt to look around, as you might be able to find a better deal with
The down payment for the second loan may vary
depending on whether you’re planning to use the property as an investment or as
a second home. If it’s the latter, plan to put 10 to 20 percent down, or if
it’s going to be used as an investment property, some lenders will require more
at the outset.
with Second Home Purchases
One of the challenges you may come across when
purchasing a second property is that they may be harder to finance, especially
if it’s going to be used as a vacation rental. Due to the seasonal nature of
the property type, there’s a risk that money won’t be coming in to cover the
mortgage. Additionally, should the economy take a turn for the worse, lenders
know that people will stop paying mortgages on their secondary properties to
try to stay afloat with the first home.
One of the primary benefits of a HELOC is that
you don’t have to go through the whole procedure with a separate mortgage loan.
Lenders can secure their loan with the existing equity of the first property
and they can see the payment history of your first mortgage. Lenders
predominantly care about your credit report, whether the primary property can
support the loan, and what your income looks like.
By using a HELOC for this sort of purchase,
it’s going to be important to have enough equity in your home and that your
debt-to-income numbers are adequate. Just remember, a HELOC isn’t a lump sum
disbursement but is meant to be drawn from over time, up to 10 years.
a Second Home as an Income Property
There are a couple of things to be aware of if
you’ll be using the second property as an income-generating resource. If you
only live in the house for 14 days per year (or 10 percent of its occupation
timetable), you can utilize many of the tax benefits allotted to income
properties, such as deducting maintenance costs, depreciation, and similar
components. The rent can even be used to pay for the loan money you used to buy
it. If you’re living in the property or using it for more than the 14 days per
year, there are still relative amounts that can be deducted, per IRS
During the application process, it’s worth it
to note whether the previous owner used it as an income property. If so, you
can generate a report for the lender to review in their consideration.
Additionally, another smart choice is to hire a professional appraiser to look
at the property and the neighborhood. Consider having them do a comparison
analysis between the property you’re interested in and comparable property so
as to project the property’s future worth.
If you can show the lender the property is
likely to grow in value, they may be more apt to give you a HELOC. Again, the
equity that you have built up in your first home is where lenders will start
looking when they’re making a decision about lending money to you.
Short List of Pros and Cons of a HELOC
- This lending shortcut can “find” money for you to use for additional investment.
- If you sold your home, you would take the equity, or the difference in what you’d paid down, to put toward another loan. This way, you don’t have to sell the property.
- You won’t have to pay a series of extras, like closing costs, agent fees, and so forth, which you would normally have to do if you sold your home.
- It’s a reasonable financing option with regard to costs and interest rates.
- Your equity in the first property gets tied into the second property, and you won’t have that to fall back on.
- The interest rate is adjustable and, therefore, not as predictable.
If a credit union HELOC is for you, the
knowledgeable experts at Rivermark Community Credit Union can
help look at options and answer any lingering questions.