LINE OF CREDIT

A line of credit gives you access to equity in the form of cash from your home or investment property. What this means is that you can draw from the equity you’ve built up in your home, to be used whenever you need it. Think of a line of credit as a credit card with a large limit, where interest is calculated on the outstanding balance only.

How does a line of credit compare to a standard home loan?

As advised above, a line of credit is similar to having a credit card with a large limit. A line of credit is applied for like any home loan and is generally available up to 80% of the property value. The one operation that differs a line of credit to any other home loan is the ability to make repayments from the available balance.

Let's take an interest-only home loan for example. The minimum monthly repayments are required to be debited from a separate transaction account. A line of credit however, can debit the regular repayments from its available balance instead.

Avid investors prefer this type of account, particularly with large portfolios, which makes managing money a little easier.

Let’s look at an example of how a line of credit works.

Charlie currently has a basic home loan with approx $300,000 owing. His property is worth $900,000, meaning that he has $600,000 in available equity. Charlie is considering purchasing an investment property up to the value of $400,000. He wants to be able to move quickly as he has missed out on a few other properties due to other parties having immediate funds available.

Rather than going through the process of a home loan once a property has been located, Charlie wants to increase the lending on his owner-occupied to cover the purchase up to $400,000, including approx $20,000 in costs.

We apply for a line of credit that provides charlie with $420,000 secured against his owner-occupied property. This provides the ability to draw on this loan as he pleases and as the repayments on a line of credit are interest only, no interest will be required until funds have been used.

This will provide Charlie with the flexibility of making offers with no subject to finance clause. As this removes the requirement of going through the home loan approval process, having valuations completed, and eliminating the need for a subject to finance, Charlie has a greater chance of having his offer accepted.

Even if Charlie's offer is lower than other interested parties, he still has a better chance of having his offer accepted because his offer is unconditional and provides the vendor with certainty.

Here's another example of why a line of credit may be a good alternative

Let's have a look at another example of why having a line of credit can be beneficial.

Let’s assume Charlie already has an investment property and is looking to complete some renovations.

The lender's normal expectations would be to have Charlie ascertain numerous quotes for all works he anticipates to complete. The lender would then submit these quotes to a valuer and have a full valuation completed to determine the final value.

If structural changes were taking place on the property, then a fixed price building contract would be required and potentially a progress draw-type setup would also be included.

The above can be quite a time-consuming process and some people may just not want to jump through hoops to complete what could be a simple task. This is where a line of credit may be the preferred option.

Is a line of credit loan right for me?

If you have built up a reasonable amount of equity in your home, accessing a line of credit can be useful if you are considering renovating, investing in properties or other assets. The reasons for needing to access a large sum of funds can also be personal, such as paying for a holiday or emergency medical expenses.

Generally, you can access a line of credit up to 80% of your property value.

Pros

• Lower interest rates compared to a credit card or personal loan, as you are using your equity, which is seen as lower risk by lenders
• Convenient access to a large sum of funds when you need it

Cons

• Your equity may be reduced if you do not manage your loan properly or your investments fall through
• Higher interest rates compared to other products such as interest-only home loans
• It will take longer to pay off your home loan if you use your equity for other purchases
• Line of credit home loans are generally more expensive, with higher interest rates and fees