Why Margins Matter in a HELOC

Let's take a look at what a margin is and why margins matter in a HELOC (Home Equity Line of Credit).  For the purpose of this post, we'll be using the HELOC page found here.

HELOC margins range

What we see on the HELOC page is that margins can range quite a bit. In some cases, margins are as low as -1.25.  Other margins show as high as +1.00.  What does this mean when it comes to a HELOC and why is it important?

Let's take a look at an example for a client who may be interested in obtaining a $100,000 line of credit.

In this particular analysis, we will be comparing a "High Margin" and "Lower Margin" line of credit.   In both cases, the Prime Rate is the same because it is not set by the bank.  The margin, on the other hand, is set by the bank offering the line of credit.  This is where the client has a range of options.

The High Margin HELOC

The High Margin HELOC has a margin of 0.50 percent.  When we add this number to the prime rate, our effective interest rate is 5.25%.  This interest rate will be charged until the prime rate moves up or down.  Any movement in the prime rate will simply move the Interest Rate by the same amount.

In this specific case, a client borrowing $100,000 at a 5.25% rate will need to pay $437.50 each month.

A lower margin HELOC

When we compare the lower margin line of credit, with a margin of -1.25%, the same client may end up paying just $291.67 per month.  This lower margin results in a savings of nearly $146.00 each month.

Recent updates to tax rules may make this more important

Historically, any interest associated with a line of credit could be written off against income. Said another way, a homeowner who obtained a line of credit wasn't "really" paying the interest rate they were given.  This is because they were able to deduct the interest payments from their earned income and receive a tax refund as a result.

Tax rules that started in 2018 have changed the laws for HELOCs.  Now, there are many instances where the interest paid towards a HELOC may no longer be tax-deductible. Due to this, it is more important than ever to consider savings that may be available from a HELOC with a lower margin.

HELOCs for wealth management clients

Next, let's examine a $250,000 Home Equity Line of Credit. The same margins from our first example provide that a savings of $364.58 is possible between a high margin HELOC and lower margin HELOC.

Cost and shopping for HELOCs

Home Equity Lines of Credit are easy to obtain and the costs to obtain them are either $0 or less than a few hundred dollars.  All else equal, it is important to understand how shopping the margins between HELOCs can have a substantial impact on monthly free cash flow.

If you'd like to evaluate home equity lines of credit in the Philadelphia area, go here.