Is a HELOC a Good Emergency Fund Option?

Should I Use My HELOC as an Emergency Fund?

Using a HELOC as an emergency fund has pros and cons. Here's what you need to consider to help you decide.

HELOC Emergency Fund Pros

HELOCs can offer flexibility, and knowing you can access funds without going through a full application process can be a huge relief during challenging times.

• High credit limit: HELOCs can often have higher credit limits than credit cards or personal loans, opening the door to being able to borrow more money in case of emergencies.
• Favorable interest rates: HELOCs generally offer a lower interest rate than other unsecured loans, making them an affordable borrowing choice.
• Use what you need: Some HELOCs allow you to borrow only the amount you need with no lump sum upfront distribution. Others provide a lump sum, then the opportunity to redraw as needed as you pay down the balance. This can provide the flexibility to borrow for a current emergency and then to borrow again as needed.
• Minimal credit score impact for applying: Your credit score will generally not be checked when you do a redraw with a HELOC, which allows you to borrow as needs arise without taking a hit to your credit.

HELOC Emergency Fund Cons

As your home is on the line, there are also some major downsides to using equity as an emergency fund.

• Your home is collateral: Your home acts as a collateral for your loan. If you don't make payments, you could lose your house.
• Payments can vary: Some HELOCs come with variable interest rates, which means you have uncertainty in how much you'll owe. With other HELOCs, including Freedom Mortgage's HELOC, you pay principal and interest from the start and your payment for each draw is fixed. When you redraw, your rate for each will be determined by current market rates.
• Applications take time to process: Freedom Mortgage can provide an initial decision within minutes on a HELOC. However, whenever you apply for a home equity line of credit with any lender, it takes time for the application to be fully processed and funds to be delivered.
• There can be fees: In some cases, HELOCs charge upfront fees, including application fees, the cost of an appraisal, and other closing costs.
• Some HELOCS can be closed if not used: With HELOCs that do not provide an initial lump sum distribution that just offer access to a line of credit, your line of credit may be closed if you don't use it.

If you borrow a substantial amount initially or during your draw period, you need to make sure you can afford the monthly payments. Those payments will vary depending on the amount you borrowed, the interest rate, and the loan term.

How to Use a HELOC as an Emergency Fund

If you are interested in using a HELOC as an emergency fund, here are the steps you would need to take:

1. Apply for a HELOC: You need to be approved for your home equity line of credit before you can begin relying on it for emergencies.
2. Make a plan for accessing the funds: With the Freedom Mortgage HELOC, you receive a lump sum distribution up front. If you are facing an emergency currently, you can use that money. You'll then gain access to credit again to redraw as you repay your balance, so it will be available for future emergencies.
3. Leave the funds available: Once you have paid back your initial draw, if applicable, you can avoid borrowing until an emergency arises, so you have the credit available. If you have used a HELOC that does not have an initial lump sum payment, you can leave the funds available from the start.
4. Use the funds when necessary: If you experience an emergency, access the funds you have available on your line of credit.
5. Pay off the balance: With the Freedom Mortgage HELOC, you make principal and interest payments during the life of the loan. With other types of HELOCs, you can make interest-only payments during the draw period, but you can choose to pay more to pay down the balance faster and keep your line of credit available.

Always remember that your HELOC is secured by your home loan, so do not borrow more than you can afford to pay back.

Alternatives to Using a HELOC for an Emergency Fund

If you decide that using a HELOC for an emergency fund is not right for you, there are other options.

1. Savings Account

Keeping money in savings can be an ideal way to prepare for unexpected expenses. You won't have to pay any interest when you use your savings to cover surprise costs. And the money will be accessible and ready when you need it.

2. Cash Out Refinance

A cash out refinance allows you to refinance your current home loan and take extra cash out to cover an emergency. This makes the most sense if you are currently experiencing unexpected expenses, since you will be borrowing the money immediately. This approach also works best if you need to refinance your current home loan anyway, either to get a lower rate or to switch from an adjustable to a fixed-rate loan.

3. Investment Account

Investment accounts, such as stocks, bonds, and 401(k) accounts can also be used as a source of emergency money. For example, you could get a 401(k) loan or you could sell stock or borrow against the value of your investment account. If you withdraw money from investment accounts, though, there could be penalties and tax implications.This is especially true if you make an early 401(k) withdrawal as you could be hit with a 10% penalty if you are under age 59 ½.

4. Credit Card

A credit card is another possible option to cover emergency expenses. Credit cards make money accessible quickly, but they tend to have much higher interest rates than HELOCs.

5. Personal Loan

A personal loan allows you to borrow without using collateral. This is one of the biggest ways that personal loans differ from HELOCs. The rates may be more affordable than credit cards but, because they are unsecured loans, the interest rate is usually higher and the loan amount lower than most HELOCs. Still, this could be a viable option if you need emergency money.

6. Home Equity Loan

A home equity loan is another alternative to HELOC if you are facing a current emergency. With a home equity loan, you get a lump sum payment up front. You cannot borrow again with a home equity loan, though, which makes this option less flexible than a HELOC.

Final Thoughts: HELOCs as Emergency Fund Options

HELOCs can be used as an emergency fund, but the process for doing so, and the pros and cons, depend on what kind of HELOC you take out and what the terms are. Some offer an upfront sum that you can borrow again after paying back some of it, while others give you a set amount you can draw from as needed. Be sure to consider what might be best for you, and reach out to Freedom Mortgage to talk with a mortgage loan professional and explore your borrowing options to find the choice that's right for you.