CFP

Financing Strategies - Mortgage Financing 2

2. Home equity loan and line of credit
  • Home equity loan
    • A consumer loan secured by a second mortgage, allowing home owners to borrow against their equity in the home. The loan is based on the difference between the homeowner's equity and the home's current market value.
    • Limit on deductibility of home equity debt: $100,000 for loan not associated with purchase, construction or improvement of the home. ($50,000 for married filing separate). Interest on loan amounts above the limit are treated as nondeductible personal interest.
      • Also known as "equity loan" or "second mortgage".
  • Home equity line of credit (HELOC)
    • A line of credit extended to a homeowner that uses the borrower's home as collateral. Once a maximum loan balance is established, the homeowner may draw on the line of credit at his or her discretion. Interest is charged on a predetermined variable rate, which is usually based on prevailing prime rates.
      • Once there is a balance owing on the loan, the homeowner can choose the repayment schedule as long as minimum interest payments are made monthly. The term of a HELOC can last anywhere from less than five years to more than 20 years, at the end of which all balances must be paid in full.
      • $100,000 deductibility applies.

3. Refinancing cost-benefit analysis
  • Monthly benefits from refinancing
    • Current monthly mortgage payment
    • - Mortgage payment after refinancing
      Monthly savings
    • - Income tax on monthly savings
      After-tax monthly savings
  • Cost of refinancing
    • Total after-tax closing costs
  • Number of months needed to break even
    • Total after-tax closing costs / After-tax monthly savings

4. Reverse mortgage
A special type of loan used to convert the equity in a home into cash. The money obtained through a reverse mortgage is usually used to provide seniors with cash flow in their retirement years.

The reverse mortgage is aptly named because the payment stream is reversed. Instead of the borrower making monthly payments to a lender, as with a regular mortgage, a lender makes payments to the borrower. While a reverse mortgage loan is outstanding, the borrower owns the home and holds title to it, without having to make any monthly mortgage payments.


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