Should you really have that line of credit?
There are is an incredibly high amount of people out there who have line of credits when they shouldn’t. A line of credit (LOC) should only be kept if you are actually using it. Why you ask? Because they are not cheap and this wonderful (sarcastically speaking) interest only payment is working against you. A current line of credit will cost you 3.50% interest where as the typical closed variable mortgage will only cost your 2.35%. That is a difference of 1.15% which is huge. If and only if you plan to pay out this LOC soon, will it make sense to pay a higher rate to avoid a penalty. However if you have an existing LOC (secured or not) and plan to keep it for at least a year, you should highly consider converting into a closed variable.
You don’t need to be concerned about being able to repay it because most of the closed variables we offer have full repayment options.You are allowed (with most of our lenders) to increase your mortgage payment by 20% and do an annual lump sum payment of 20% of the original mortgage amount.
Essentially you can pay the entire thing off in less than 5 years without a penalty. Also, keep in mind that a LOC is typically interest only which means your balance will never decrease unless you make additional payments.
I am a numbers guy, let’s run a quick calculation:
- $500,000 – Your line of credit balance, interest only at 3.50%.
- $1,447.81 – Is your monthly payment (interest only)
- $500,000 – Is your balance after 5 years
- $500,000 – Your closed variable mortgage at 2.35%.
- $1,933.90 – Is your monthly payment (30 year amortization)
- $438,992.53 – Is your balance after 5 years
The difference in ending balances is $61,007.47 ($500,000 – $438,992.53). The difference in the monthly payments is $486.09 ($1,933.90 – $1,447.81). When you multiple the payment difference ($486.09) by the months in a 5 year term (60) you get $29,165.40. This number now needs to be subtracted from the ending balance ($61,007.40) to make the payments the same at the end of the day.
By restructuring your LOC into a closed variable mortgage you will increase your net worth by $31,842 without technically making any additional payments and you still can pay it off in less than 5 years. Let’s be honest here, not too many of us will be paying off a $500,000 loan in less than 5 years.
Want me to run some number specific to your situation? Just ask.
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