Line of credit


What is a line of credit mortgage?

Line of credit mortgages, also called revolving line of credit and equity line of credit loans, allow you to draw funds as you need them up to an approved credit limit. Interest is charged only on the portion of the loan you've used.

The loan's credit limit is usually set at a percentage of the property value and may also be capped at a maximum dollar amount.

Fixed, variable and split interest rate options are available.

A key difference between a line of credit loan and a regular mortgage is that as you repay the line of credit, the funds you've paid are available to redraw again up to the credit limit.

Additionally, as long as you keep the loan balance below the credit limit, you won't have to start making repayments. Interest charges are capitalised to the loan, meaning it's added to the loan balance.

How to use them

Line of credit loans can be used to help repay a mortgage more quickly. By directing any available money into the loan and then withdrawing from the line of credit as needed, you can minimise interest charges, which are usually calculated daily on the outstanding loan balance.

When used like this, lines of credit have a similar result of helping minimise interest charges for the borrower, as holding a balance in an offset account attached to the loan.

But not everyone has cash spare to store in an offset account. Money in an offset account can only be spent once while you can draw on a line of credit loans allow for multiple draws on the account, as long as you're making repayments so the loan balance doesn't exceed the credit limit.

Offset accounts are generally attached to a standard mortgage so you must continue to make regular repayments whereas with a line of credit, you can capitalise the repayments to the loan.

Useful tools

Line of credit facilities can be handy for building and renovating where bills come in gradually over time. You can save by only incurring interest charges on the money you've used and have extra (up to the credit limits) available as new expenses arise.

Some people choose to use line of credit loans to build wealth by tapping into the equity in their home to invest in assets such as shares or rental properties.

Interest rates are low at the moment and share and property markets have been strong, but it is important to keep in mind that rates rise and investments can fall in value. This strategy is only effective if the investments are expected to deliver a return that is better than the mortgage interest rate. Before pursuing this type of strategy you should make sure you're comfortable with any risk you're taking on and always seek professional financial advice first.

Discipline needed

Borrowing more through a line of credit will mean it takes longer to pay off the loan. It will also cost more in interest than if you cleared the debt quickly.

The loans may charge higher interest rates than simpler home loans and fees may apply.

Some line of credit loans will revert to a standard principal and interest mortgage after an initial period of 10 years or so.

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