I’m not applying for a home equity loan yet, and I don’t want to disclose personal information.

.
.
You can explore a wide variety of financial institutions that make home equity loans, such as savings and loan associations, commercial banks, mutual savings banks, mortgage companies, and the bank where you have your checking or savings account.

.
Your local newspaper is one source where you can find the lender who offers the most attractively priced loan. Look for the lender’s shoppers guide to mortgage credit. You can find these shoppers guides in many localities. You can use them to identify the lenders with low rates.

.
In any case, the way to find the most attractive [tag]home equity loan rates[/tag] and terms is to shop around.

.
An effective way to shop around is to get no-obligation, free quotes of individualized loan rates and terms from established lenders. You don’t have to be applying for a loan in order to get these free quotes. These lenders are hungry for your business. Let them compete to impress you with their offers. They are just too happy to give you their best information that includes not only loan interest rates but also points, fees, closing costs, and other relevant information.

.
No credit check is needed for getting these free quotes. Only basic, non-intrusive particulars are required, such as your property’s locality and value, the loan amount you need, you contact details, and so on. Lenders need these data to assess your financial situation and quote you more personalized loan rates.

.
The most attractively priced home equity loan is not one that charges the lowest interest rate. Your interest rate is only one part of your mortgage loan. There are other costs that lenders charge you, such as points, fees, transaction costs, closing costs etc that may add thousands of dollars to the cost of your loan. Some lenders have different names for these costs.

.
If lenders notice that you’re hung up on loan interest rates, they may play to your weakness and offer you low rates to lure you while increasing the other costs mentioned above. From these multiple sources of income, they may reap a return (known as [tag]APR[/tag] or [tag]Annual Percentage Rate[/tag]) higher than the interest rate they charge you.

.
What you should be concerned with is your loan’s APR. To lenders, APR is their real profit. To you (the borrower), APR is your real cost. Your home equity loan rate is only one of the components of your loan’s APR.

.
When you ask for free quotes, make sure that you’re given not loan interest rates only, but also all the other costs and fees that the lenders will charge. Be sure that they quote their APRs too.

.
What we have discussed so far deals with your question on loan interest rates only. Interest rate evaluation is only one part of your loan evaluation.

.
Get your no-obligation, free quotes here.

.
.

Tags: annual-percentage-rate, apr, Home equity loan rates, interest-rate-free-quotes

My wife and I are considering taking a $65,000 home equity loan at 7% for 15 years and investing the cash in a mutual fund portfolio targeting a 10% - 12% return.

We have significant equity in our house that is financed at a fixed interest rate of 5.5% for 30 years. We have no other debts.

After paying all the bills we have about $600 left over each month. We will use this $600 to pay for the $65,000 home equity loan.

Does my plan make sense?



I assume that your home equity loan will be a [tag]fixed-rate loan[/tag] over 15 years, just as your existing mortgage at 5.5% fixed over 30 years. It is not advisable to use [tag]HELOC[/tag] ([tag]home equity line of credit[/tag]) because its rate varies according to market conditions. Under adverse conditions, its rates might exceed your portfolio’s ROI (return on investment), and therefore HELOC is risky for long-term purposes. No one can predict interest rates for 15 years ahead.

.
To evaluate any financial plans, we must crunch the numbers and evaluate the results. I have set up the figures for you in this spreadsheet.

.
You can see your [tag]loan amortization schedule[/tag] for the $65,000 home equity loan in the spreadsheet. Your monthly repayment installment is $584. You are right — you can use your monthly excess cash of $600 to repay the home equity loan.

.
Before we evaluate the results, let me spell out my assumptions underlying the figures:

(a) You are in the 25% tax bracket

.
(b) Your [tag]mutual fund[/tag] pays you dividends every month

.
(c) You do not reinvest your dividends

.
(d) There are no capital gains and no capital losses

.
(e) All your dividends are qualified and taxed at 15%

.
(f) You are very disciplined and set aside the tax on your dividends (referred to in (e) above) every month

.
.
Evaluating your investment model
—————————————————

(1) Your [tag]home equity loan interest is tax deductible[/tag]

.
Since your home equity loan is less than $100,000, all of its interest is tax deductible under the IRS rules. Since I assume you are in the 25% tax bracket, you save 25% tax on each interest payment. The tax savings are calculated and listed in the spreadsheet. Your real loan interest should be net of tax savings. For example, the real month 1 loan interest = 379 - 94.75 = 284.25.

.
(2) Calculate your after-tax net profit

Remember assumption (f) stated above.

.
If we assume your mutual fund pays 12% dividends each year for 15 years without fail, you will make an after-tax net profit every month. For example, your month 1 after-tax net profit = 553 - 284.25 (see para (2) above) = 268 approximately (see spreadsheet).

.
The table in the spreadsheet shows that your mutual fund is profitable every month throughout the 15 years, yielding a cumulative after-tax net profit of $69,330 by the 180 months.

.
It is obvious that your mutual fund will be profitable because its targeted ROI (12%) is higher than the loan interest cost (7%). The profitability is further boosted by the higher tax savings (25%) on the loan interest vis-a-vis the lower tax cost (15%) on the dividends.

.
Similarly, at 10% ROI your mutual fund will be profitable.

.
(3) BUT… consider the cash flows

Now we need to see if your mutual fund will put extra CASH into your pocket.

.
To do this, simply subtract your monthly loan repayment from your monthly dividends received less 15% tax (remember assumption (f) stated above). Since the IRS does not give you a check every month for the tax savings on the loan interest, your monthly cash outflow is $584 — your monthly loan repayment. In other words, you do not have a monthly stream of “net-of-tax” cash outflows. Your tax savings are given back to you in computing your tax liability, and not in cash directly.

.
Under both the 12% and 10% ROI scenarios, there are monthly cash shortfalls, viz. $32 and $124 respectively (see spreadsheet). This means the net-of-tax dividends received are not sufficient to pay for the loan interest and principal each month. You will not see extra cash coming in every month. On the contrary, you will have to use part of your $600 monthly savings to cover the shortfalls.

.
This cash loss is caused by the 15% tax. Take the 12% ROI case for example. The gross monthly dividend is $650. After paying the monthly loan installment, you are left with excess cash of $66, ie 650 - 584 = 66. But you have to pay 15% tax that works out to be $98, ie 650 x 15% = 98. Your excess cash of $66 is not sufficient to pay the tax. You have to come up with $32 to make up the shortfall, ie 66 + 32 = 98.

.
(4) The bottom line

The bottom line is that your mutual fund will be a loss-making one. When the ROI drops by 2% from 12% to 10%, the cash loss increases by almost 4 times, ie -$22,234 vs -$5,710. The targeted return of 10% - 12% is simply not enough to generate sufficient cash to pay the loan and tax.

.
(5) Important point to note

Always evaluate cash flows. Evaluating only ROIs as we do in paragraph (3) above may lead us to wrong decisions.

.
.
Change assumption (c) — Re-invest your dividends
————————————————————————————-

Now let’s use the following assumptions:

(a) You are in the 25% tax bracket

.
(b) All your dividends are qualified and taxed at 15%

.
(c) Your mutual fund pays dividends monthly.

.
(d) You reinvest 85% of your monthly dividends, and take out 15% to keep aside for paying the tax. (In practice you would probably reinvest 100% of the monthly dividends.)

.
(e) You will use your $600 to pay your monthly loan installment of $584.

.
(f) There are no capital gains and no capital losses

.
Based on these assumptions, I have set up new tables of figures in spreadsheet 2.

.
.
Analyzing the figures
——————————-

With the reinvestment of dividends, your monthly dividends increase (see column 3 (col3) in the mutual fund tables in spreadsheet 2) because of the compounding effects.

.
At 12%, you will start making after-tax net cash profits from month 15 onwards (see (col 6) - “After-tax net cash flows” in spreadsheet 2). By the time you fully pay off the home equity loan in month 180, you will have made a total of about $128k after-tax net cash surplus (this is the last figure in (col 6) - “After-tax net cash flows“) .

.
At 10%, your mutual fund will start making after-tax net cash surplus only in month 66, and generate a total of about $61k by the 15th year.

.
Since your targeted ROI is between 10% - 12%, you would expect to start making cash surplus between month 15 and month 66.

.
.
How do we arrive at the after-tax net cash flows
—————————————————————————-

Look at the table of figures of the mutual fund @12% in spreadsheet 2. Here are the steps:

.
(i) We accumulate the “after-tax dividend re-invested” (col 3) month by month, and record the monthly cumulative figures in (col 4).

.
(ii) Then we accumulate the monthly loan repayments ($584) that you make with your $600 cash in hand, and record them in (col 5). Compare (col 4) and (col 5).

.
(iii) Subtract (col 5) from (col 4). The results are recorded in (col 6) — “After-tax net cash flows“. The negative figures in (col 6) represent losses, and the positive figures represent after-tax net cash dividends.

.
.
Conclusion
—————-

(1) For your investment plan to be profitable, you will need to reinvest your dividends to take advantage of the power of compounding.

.
(2) Bear in mind that our analyses assume that your mutual fund will pay the targeted return of 10% or 12% constantly over 15 years. This is unlikely in reality.

.
(3) Understand that your mutual fund’s value may drop if the market moves against it. There is always risk in investing.

.
(4) We have seen that there is a vast difference in the break-even periods between 12% return and 10% return, viz. 15 months vs 66 months. A small change in the rates of return brings about a considerable change in the profitability. This means the profitability is very sensitive to the rates of return.

.
Therefore if your mutual fund’s return drops below 10%, it will take an even longer period to break even. Your investment may turn into a loss.

.
(5) It is risky to use borrowed money for investment. You are bound to the [tag]loan repayment schedule[/tag] whether your investment makes profits or loses money. Take for example your mutual fund that will pay 12% return. Your net-of-tax monthly dividend is $650 x 85% = $553. If you use $65,000 of your own money to invest in the mutual fund, this $552 will be entirely cash profit in your hands. But, as we have seen, when you use $65,000 home equity loan to invest in the mutual fund, you will end up with a cash loss of $32 each month. What a world of difference!

.
Remember the 4th Quadrant (the Investor Quadrant) in the book, CashFlow Quadrant, written by [tag]Robert Kiyosaki[/tag]? He suggests that the ultimate position to get into is the Investor Quadrant where you use money to make money for you. But he suggests you use your own money, not borrowed money.

.
(6) When evaluating your investment models, always analyse and evaluate the relevant cash flows.

.
No doubt, you will do more research and get plenty of investment experts’ advice before you make your decision. Events and circumstances that cause turbulence to the stock markets are arising more frequently nowadays. Many unforeseen things can happen in 15 years ahead.

Tags: fixed-rate-loan, heloc, home-equity-line-of-credit, home-equity-loan-interest-is-tax-deductible, loan-amortization-schedule, loan-repayment-schedule, mutual-fund, robert-kiyosaki

(i) I have an [tag]interest-only home equity loan[/tag] of $124,000 at 8% interest rate. I want to pay it off. If I repay $1,800 each month, when will I pay off the loan?

(ii) How much interest will I have paid?

(iii) Currently my interest-only payment is just over $800 a month. If I repay $1,000 principal every month, will I be better or worse off?


(i) You will pay off the entire loan in 93 months. The final repayment installment is $960.

(ii) You will have paid $42,560 interest in total.

I have set out the numbers for you under Scenario 1 in this spreadsheet. Be sure to scroll down to the bottom of Scenario 1 to see the summarized figures.

(iii) Repaying $1,000 principal every month

(a) It will not make a difference if you repay $1,800 every month

If you pay $1,800 every month, the results will be answers (i) and (ii). There will not be any changes in the results. The monthly interest will be paid off first from your $1,800 monthly installment, and then whatever amount of money left of the $1,800 is used towards repaying the principal.

.
Scenario 1 shows the monthly interest and principal paid. Go back to Scenario 1, and you will see that in month 1 $827 interest is paid, while $973 principal is paid. In month 2 $820 and $980 interest and principal are paid respectively. Each month’s interest and principal paid add up to $1,800. This is how your monthly installment is apportioned between interest payment and principal payment.

.
In Scenario 1 you may have already noticed that in each successive month the principal paid increases while the interest paid decreases. You can see that after month 5 the principal paid each month exceeds $1,000.

.
.
(b) You will end up paying more interest if you stipulate $1,000 monthly principal repayment
.
If you agree with your lender that you will pay $1,000 principal each month, you will repay your loan according to the [tag]loan repayment schedule[/tag] shown under Scenario 2 . You will be worse off as follows:

.
(1) You will fully pay off your loan in 124 months vis-a-vis 93 months in Scenario 1. This is because you pay off the outstanding principal at a slower rate in Scenario 2, thus stretching the loan period.

.
(2) Your monthly repayment installments will no longer be constant: they decrease in each successive period. You will have to pay $1,826.67 in month 1, $1,820 in month 2, $1,813.33 in month 3, and so on (see Scenario 2 “Repay” column). This may cause you some inconvenience in administering your monthly repayments.

.
(3) You will have paid $9,106.67 more interest at the end of the loan period. Scroll down to the bottom of Scenario 2 to see the summarized figures.

.

Tags: interest-only-home-equity-loan, loan-repayment-schedule