Why a HELOC Can Be a Hidden Retirement Resource

Patrick Macken, Senior Managing Director, First Republic Bank

April 13, 2016

HELOC image

Most pre-retirees consider the obvious savings sources as they plan for their next phase of life, from 401(k)s and IRAs to brokerage accounts to supplemental pensions or social security. But with home values consistently rising across the country, many may be able to tap into a hidden retirement resource: the equity in their homes. 

For seasoned homeowners, a Home Equity Line of Credit (HELOC) provides a way to pull cash out of your home’s value for making renovations, consolidating debt or even supplementing some of your retirement expenses. The tool offers you an open line of credit that you can draw on as needed, much like a credit card though with far lower interest rates. You only pay back interest for a defined period. If you pay down the balance in full, you can draw on the existing line of credit again.

Provided you have the means to pay off a HELOC, this resource can enhance your retirement without jeopardizing your savings in other tax-advantaged vehicles. 

First, understand the details

Though HELOCs aren’t overly complicated, you do want to take the time to understand how they work before you apply. For example, people often confuse HELOCs with a home equity loan. While both are secured by the equity in your home, the latter is a loan you take out in one lump sum. The interest rates are typically fixed, and once you borrow the money, that’s all you get.

With a HELOC, you have a designated draw period, often 10 years, in which you can borrow up to a specific amount. During that period, you only pay back interest on the money you’ve used. However, at the end of the draw period, your payments increase as you begin to pay down both the principal and the interest.

To make the best use of a HELOC in retirement, you’ll want to have a clear plan or need for the money, and an equally clear strategy for eliminating the debt without causing yourself undue hardship. With a little preparation, a HELOC can provide financial flexibility and the funds to help you achieve more of your retirement goals.

Upgrade your retirement home

65 percent of retirees say they are living in the best home they’ve ever owned. Whether you align with this group or want to upgrade your current housing situation, consider improving the home you have to match with your future needs. Perhaps you’ve always wanted to add more outdoor living and entertaining space, or turn a main floor office into a master suite.

Instead of funding these renovations with a credit card or out-of-pocket payments, consider taking advantage of HELOCs, which offer a less expensive source of money. While HELOC rates can change daily with market fluctuations, they are typically much lower than credit card interest rates, which usually reach the double digits.  The maximum amount you can borrow depends on several factors, including the value of your home. However, even if your city’s real estate prices aren’t soaring, if you’re comfortable with the equity you have in your home, a HELOC can help you make it the retirement house of your dreams.

Jump the distribution gap

If you retired early, you might consider using a HELOC to fund some of your living expenses until you can make penalty-free withdrawals of your tax-advantaged retirement accounts at age 59 1/2. It’s a low-cost way to create an income to live on, without incurring the 10% penalty you’d face for drawing out of your retirement accounts early. You can also use this cheap source of money as a potential emergency fund for a time of life when your income is more fixed.

Open the line of credit, and then draw on it instead of your retirement nest egg if you have unexpected expenses. The key here is to be smart and cautious. Again, you would only want to use the HELOC if you had a definitive plan for paying it down. Talk to your financial advisor or personal banker about whether a HELOC makes sense for your retirement situation.

The strategies mentioned in this article will often have tax and legal consequences; therefore, it is important to bear in mind that First Republic does not provide tax or legal advice.  This information is provided to you “AS IS”, does not constitute legal advice, is governed by our Terms and Conditions of Use, and we are not acting as your attorney. We make no claims, promises or guarantees about the accuracy, completeness, or adequacy of the information contained here.  Clients’ tax and legal affairs are their own responsibility – Clients should consult their own attorneys or other tax advisors in order to understand the tax and legal consequences of any strategies mentioned in this article.

The views of the author of this article do not necessarily reflect the views of First Republic Bank.

©First Republic Bank 2016