If you have ever watched late-night TV or stayed home sick from work and found yourself watching reruns of Judge Judy, you will relate 100% to what I am about to say.
On those days we play hooky, we have all seen those commercials that say things like, “Payoff all your debt in 5 months, just call this number,” or “You can be a millionaire with this cassette tape and three payments of $45.oo!”
And while nobody in the right mind ever calls those numbers, what am I about to say almost sometimes reminds me of those awful commercials. But it works.
Believe it or not, you can pay off your mortgage in 5-7 years using a home equity line of credit.
Also referred to as a HELOC, a home equity line of credit is essentially a credit line backed by your home's equity. Pretty straightforward.
However, if you keep reading, you might learn how to pay off your mortgage in 5-7 years leveraging a HELOC (No, not like those commercials who say you can in 5-7 days).
“It is well enough that people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning.” -Henry Ford.
Paying Off a Mortgage with a HELOC
We don't do it often, but when we occasionally tell people how we paid off $150,000 worth of student loans in 18 months in person, they are either shocked or are so confused it doesn’t even make sense.
The interested ones ask how, and we say with additional income streams and some discipline, we have figured out how to throw almost 60% of our income towards our debt.
Most of the time, when we say this involved some lifestyle changes, it is not what they want to hear. However, adjusting to the 60/40 percent with a goal of 70/30 (Pay now, play later is our mantra, not play now, pay forever) does require some changes.
I say all this because, in reality, it depends on the person, but we don't divulge all of our secrets. Not because we are dishonest, all the above is true.
But because we are leaving one thing out – we leverage the equity in our home to pay off debt. In other words, we use a HELOC to pay off student loans, our mortgage and invest.
How do mortgage acceleration and equity optimization work?
In short, mortgage acceleration is a concept that involves rapidly paying down a home's principal to avoid hefty interest charges over the long haul of most traditional mortgages.
Equity (which is the value of your home minus the balance owed) is the portion of the house you own. What most fail to recognize is that building equity is a great tool and asset – but equity is dormant.
Think about it, if you live in a home for ten years building equity, that equity is growing, but it is a dormant asset until the home is sold.
With a 30 year fixed rate mortgage (FRM) the first few years of the loan, 80% of the payment goes towards interest (Simple amortization charts later in the article show this).
Mortgage rates at 4% are great, but it is not the rate that counts so much. It is the principal mortgage balance that the rate is based on that matters.
The lower the principal balance of a mortgage, the more each monthly payment is applied to the principal instead of interest.
Sure, making extra mortgage payments can be done manually and you might pay off your home in 28 years instead of 30. However, why not use the equity in your home to pay off the mortgage debt in your home in 5-7 years?
The idea behind the HELOC is you take large sums (upwards 25-50K) and make large principal payments on your mortgage.
By doing this and regularly maintaining your regular payment, you attack the principal faster, therefore saving huge on the interest. But before breaking down hit all works, here is why you probably have never heard of a HELOC mortgage payoff.
Why are people reluctant to use a HELOC to pay off their mortgage?
I will admit, whenever we first mention accelerating our student loan debt and paying off our mortgage using a home equity line of credit people tense up and become uneasy.
Most have been taught to be averse to debt, myself included. However, paying off debt with debt is not taking out more debt – it is merely washing debt.
Throw in these three misunderstandings about HELOC's and most people will never capitalize on the benefits of leveraging one:
- We don't trust what we don't understand, so we are less reluctant to learn/try.
- The realist in most of us tells us something like this is too good to be true, and we immediately knock the notion that it works.
- Guru Dave Ramsey says “No to proceed with the idea”, keep budgeting.
The whole idea of robbing Peter to pay Paul to pay off your mortgage quicker is not something most really understand. There isn't a ton of literature on the concept, which makes it hard to find information on the subject.
Note: A simple google search only yielded 42,000 search results. Not a lot when compared to a google search of “Debt consolidation,” which produced 103 million results.
Is using a HELOC to pay off a mortgage safe?
At this point, you, like myself, might be asking, “Well if this concept is so great, why haven't I heard of it?”
Trust me, I said the same thing. But my wife and I were in such a pickle with the student loans we were willing to try anything. We are glad we did. But here is a few reasons why you haven't even heard of the idea of leveraging a HELOC to pay off your mortgage:
- Banks do not want people to accelerate mortgages.
- It is not something that is commercialized or recommended.
- Most experts in this own small companies, sometimes that can scare people away; thus the concept is not very popular.
- Banks would rather have you re-fi or consolidate; they don't deal in the financial advice world, which is what using a HELOC is.
- Most don't understand amortization and how much they are paying in interest.
- Many still have a traditional 30 FRM idea of owning
- Requires a positive cash flow each month
- The process upfront is very hands-on and can seem to complicate
Steps to use HELOC for your mortgage:
In order for you to make the HELOC concept work for you there are three essential ingredients required.
- Positive monthly cash flow that would make enough of an impact on the HELOC
- Equity in our home significant enough to produce the results we needed to make it all worth it
- Simple financial discipline
Once we decided to use the HELOC concept to pay off our student loans first (Our mortgage later) the process was pretty simple, and I describe in detail at the end of this article.
How we did it: We took a line of credit out at 3% (Nearly 5% lower than the student loan rates) and paid down 40K in loans. When we did this, we immediately freed up about $800 in cash flow and funneled that in with all of our extra money into the HELOC, paying it down in 6 months only to repeat in June 2017, March 2018 and December 2018.
What it would look like applying a HELOC mortgage payment:
Here is where it gets fun.
Using an amortization schedule calculator and the ability to apply one time extra payments, here is how it would look to pay off a $300,000 home with a 4.5% interest rate applying an annual $40,000 HELOC payment.
Here are results of applying the annual $40,000 HELOC payment:
- Principal $46,362
- Interest: $11,637
- Principal $48,491
- Interest : $9,508
- Principal $50,719
- Interest $7,280
- Principal $53,049
- Interest $4,950
- Principal $55,486
- Interest $2,513
- Interest total for loan: $41,680
In this scenario, a $300,000 home using a HELOC to payoff the mortgage can be fully paid off by 2023.
With the mortgage paid in full, over the life of the loan the owner has paid a grand total of $41,680 in interest towards their mortgage, roughly $700 per month.
YES, the HELOC has interest, but over the course of five years you can estimate paying an average of about 75$ a month in interest (5% on $40,000 is $166 a month. But remember the HELOC balance is dropping monthly so the interest charges are dropping $15-$25 per month too!)
In all, the interest on the HELOC is close $4,500 over 5 years so factored in with the mortgage interest for a grand total of: $46,180.
(Remember $46,180 as we look at a traditional 30 year fixed mortgage at 4.5%).
HELOC Mortgage Compared to Traditional 30 Year FRM
- Principal: $4,931
- Interest: $13,310
- Principal: $5,158
- Interest: $13,083
- Principal: $5,395
- Interest: $12,846 (Running total interest: $44,849)
- Principal: $5,642
- Interest: $12,598
- Principal: $5,902
- Interest: $12,339
First 5 Year totals 2018-2023:
Total Principal Paid: $35,190
Total Interest Paid: $81,850 or $1,350 per month for 5 years. Only 24 years to go!
By 2047 (Above) Paid in Full
The total amount paid traditionally in interest: $247,220
The total amount paid with the HELOC in interest: $46,180
What would you do with an extra $201,040?
Or how about being 6 years away from not having a mortgage and having an additional $2,218 a month (combined mortgage payment and interest amount saved) to put towards retirement or savings?
Step by Step Application of a HELOC Payment:
Figure out the best HELOC for your needs. In our case, Pen Fed was our best bet, and to make life easier we ran our checking through them as well. Streamlining accounts is vital since your manually moving money, and Penfed is no-nonsense with transfers.
Our HELOC rate was 3.5%, and that is variable, but can only raise a quarter-point every 6 months (AKA it would take 4 years to get to where our student loans were at in terms of %)
My takeaway with using a HELOC to Pay off a Mortgage:
Q: Would you consider using this concept?
Josh writes about ways to make money, pay off debt, and improve yourself. After paying off $200,000 in student loans with his wife in less than four years, Josh started Money Life Wax and has been featured on Forbes, Business Insider, Huffington Post and more! In addition to being a life-long entrepreneur, Josh and his wife enjoy spending time with their chocolate lab named Morgan, working out, helping others with their debt and recommend using Personal Capital to track your finances.