Consider a financial planning strategy of saving the equity you’ve built up in your home to help ensure a stable retirement or bail you out in the event of an emergency.
Avoid Tapping Into Your Home’s Equity for Short-Term Needs
It may be tempting to tap into your home equity for short term needs, especially if you’ve built up tens of thousands of dollars. Short term needs may include home improvements, college education, debt consolidation, investing or luxury spending to mention a few. And lenders are quick to offer home equity loans, home equity lines of credit and cash-out financing as an answer to these short-term needs. It’s inviting because home equity loans may bring tax deductions and rates can be lower than other borrowing options.
However, the recent foreclosure crisis came as a huge warning sign. It was in part due to homeowners who tapped out their home equity only to find they were unable to repay their home equity loans.
Save Your Home’s Equity for Retirement and Emergency Needs
Let the equity you have in your home bring added security and peace of mind for your retirement years, or as backup funding in the event of an emergency. For example, the trend is that health insurance covers less and medical expenses are on the rise making an injury or illness potentially financially devastating. And a personal health crisis is just one emergency scenario.
Americans are, in increasing numbers, outliving their retirement funds. One way to extend retirement funds is to tap into accumulated home equity during the retirement years. This may take the form of downsizing, or a Reverse Mortgage for example. The more equity that remains at that time, the more additional funds for retirement and the less chance of outliving one’s retirement funds.
So, although it may be possible to borrow up to 80% of your home’s value, this short-term financial strategy may leave you underfunded in your retirement or in the event of an emergency.
On the other hand, the discipline of ensuring you are able to pay off your mortgage before retirement and have that equity on hand for emergency use can result in greater financial stability and peace of mind.
The Danger of Tapping into Your Home’s Equity for Short-Term Needs
Debts such as credit cards and luxury items should be paid off in the short term. Such discipline can be rewarding in the long term. Speculative investments such as high-risk stocks, should only be made using funds that can be lost without damaging long-term financial stability. However, some have tapped into the equity in their home for such investments and seriously damaged their retirement security when the investment failed to pan out.
Some have tapped into their home’s equity and overspent for college education. A better option may be a fixed rate Federal education loan.
Home improvements financed through home equity loans are not necessarily a long-term investment. These should be carefully researched. Many home improvements fail to add to the resell value of the home and can therefore be considered luxury expenses. For example, if you invest $50,000 in building the only swimming pool in your neighborhood, you will likely never recoup that value when you sell your home, as resell value is to a large extent based on the comparative market value of the other homes in the neighborhood.
A good rule of thumb is to only take out a home equity loan you can pay off within 5 years, even though some home equity loans may offer up to 20-year terms. Save the equity in your home for added retirement security and emergency needs. Good luck and good savings!
Save the equity in your home for added retirement security and emergency needs.
A good rule of thumb is to only take out a home equity loan you can pay off within 5 years, even though some home equity loans may offer up to 20-year terms.