HELOC paydown vs. 1st Mortgage paydown. Which first?

[supernova72]

Hello,

I'm torn on which loan to paydown first between a recent HELOC (used car purchase) and my first mortgage.

The scoop:

Mortgage:
4%, 15 yrs, $207K (refied in July of 2011)
balance is now $128K
Home value $500K
Been paying approx $600 a month extra principle the last three years (pre car purchase)

HELOC:
3.99% variable
$26K balance
2014 M235i ($37K value wholesale)
Guessing it's depreciating about 10% per year.

Since the car is depreciating and the house is appreciating (Seattle WA) should I apply the entire $600 to the HELOC? I just can't figure it out for whatever reason. I'm currrenly splitting it 50/50 between the two loans.

Someone will probably ask why I'm doing a HELOC for a car. Good question. I like the flexibility actually and can still itemize at tax time if that helps. Thanks!

I hope to ER within 2 yrs. I'm 55 yrs old.

 

[REWahoo]

Question: Since you say the HELOC interest is variable, when/how often/by how much is it subject to change?

 

[Hamlet]

I don't think whether the car or house are depreciating or appreciating really matter, does it? From a practical standpoint, you have two loans against your house at the same rate.

I'd probably pay down the HELOC because it is a variable rate loan and I'm assuming that the primary mortgage is not.

 

[Senator]

Pay down the HELOC. It is less.

You will save interest no matter what loan you pay. You will only create cash flow once one is completely paid off.

Then work on the mortgage.

 

[Meadbh]

Pay down the HELOC. It is less.

You will save interest no matter what loan you pay. You will only create cash flow once one is completely paid off.

Then work on the mortgage.

Exactly. When you have several loans, cash flow becomes a step function. It is only when one loan is completely paid off that your payments step down. The faster you reach that step, the earlier will your cash flow improve. Therefore, assuming the interest rates on both loans are not too different, it makes sense to begin by paying down the smaller loan.

 

[pb4uski]

I don't think whether the car or house are depreciating or appreciating really matter, does it? From a practical standpoint, you have two loans against your house at the same rate.

I'd probably pay down the HELOC because it is a variable rate loan and I'm assuming that the primary mortgage is not.

+1 the nature of the collateral isn't relevant to the decision. In theory, you should be indifferent since the after-tax cost of debt is the same. However, I would apply the payments to the HELOC to reduce the risk of the interest rate increasing on you.

 

[supernova72]

Question: Since you say the HELOC interest is variable, when/how often/by how much is it subject to change?

Hi and thanks, I believe quarterly on the rate update. I can lock it in for 4% however.

 

[supernova72]

I don't think whether the car or house are depreciating or appreciating really matter, does it? From a practical standpoint, you have two loans against your house at the same rate.

I'd probably pay down the HELOC because it is a variable rate loan and I'm assuming that the primary mortgage is not.

Thanks. Yes home loan is fixed. HELOC is variable although I can lock if I want to. Cheers.

 

[supernova72]

Pay down the HELOC. It is less.

You will save interest no matter what loan you pay. You will only create cash flow once one is completely paid off.

Then work on the mortgage.

Cheers. Appreciate the feedback!

 

[supernova72]

Exactly. When you have several loans, cash flow becomes a step function. It is only when one loan is completely paid off that your payments step down. The faster you reach that step, the earlier will your cash flow improve. Therefore, assuming the interest rates on both loans are not too different, it makes sense to begin by paying down the smaller loan.

Great advice. Thanks!

 

[supernova72]

+1 the nature of the collateral isn't relevant to the decision. In theory, you should be indifferent since the after-tax cost of debt is the same. However, I would apply the payments to the HELOC to reduce the risk of the interest rate increasing on you.

Thanks. I guess yes debt is debt and I was trying to rationalize which to tackle first. I'll focus on the HELOC!

 

[45th Birthday]

As others have noted, the value of the underlying collateral has nothing to do with your decision.

I think that if the rates are the same, you would pay down the HELOC simply because once you pay a first mortgage, you cannot borrow that money again without a refinance. If you pay on the HELOC and later change your mind, it is easy to reverse. Like a built-in option, so that choice has more value than the other.

 

[ERD50]

...
Mortgage:[/b]
4%, 15 yrs, $207K (refied in July of 2011)
balance is now $128K
Home value $500K
Been paying approx $600 a month extra principle the last three years (pre car purchase) ....

Agree with others, what the 'thing' tied to the loan does is irrelevant - it would do that same thing with or w/o a loan.

Some people are just afraid of debt. I see it as a tool, can be good or bad.

That $600/month you used to prepay the mortgage would have made ~ 36% if invested. Set the slider to 757 days:

PerfCharts - StockCharts.com - Free Charts

Of course it could have gone differently, but in general the market goes up.

-ERD50

 

[Gumby]

Consider keeping a principal balance of $100 on the HELOC just to keep it open and available for emergencies. You'll pay interest every month, but it will be tiny, and well worth the option value. If you pay a HELOC down to zero, it's typically gone and you'd have to reapply for a new one if you need it.

 

[Fedup]

I agree to pay down the HELOC. But I think HELOC if it's not used for a long time will be closed, not because of zero balance.


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[Lakewood90712]

Consider keeping a principal balance of $100 on the HELOC just to keep it open and available for emergencies. You'll pay interest every month, but it will be tiny, and well worth the option value. If you pay a HELOC down to zero, it's typically gone and you'd have to reapply for a new one if you need it.

+1

 

[Gumby]

I agree to pay down the HELOC. But I think HELOC if it's not used for a long time will be closed, not because of zero balance.


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"Typically" may have been an overstatement, but that has been my experience with HELOCs - if I paid down to zero, they terminated.

OP -- you should check your loan documents or ask your lender.

 

[Fedup]

"Typically" may have been an overstatement, but that has been my experience with HELOCs - if I paid down to zero, they terminated.



OP -- you should check your loan documents or ask your lender.

I had a $400k HELOC sitting at zero amount for nearly 8 years, it was closed after the Great Recession. I didn't protest because I never used it. This HELOC on my current house is only for 20-years. I may have to re- apply after 20 years.


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[Markola]

At risk of beating this unanimous advice to death, below is a little interview with anti-debt expert Dave Ramsey. Personally, I have had HELOCS but don't plan to use them anymore because it is unnecessarily risky to ever have consumer debt held against one's home. Instead, I keep an unsecured line of credit at my bank for small, short term cash flow management needs in lieu of cash sitting uninvested or having to sell securities. The interest rate is high so I am dissuaded from using it much. After FIRE I plan to never use debt. Anyway, here's the good Dave Ramsey interview on HELOCS: http://www.bankrate.com/finance/financial-literacy/ramsey-home-equity-loans-dangerous-1.aspx

 

[supernova72]

OP here. I should have included in my post that I hope to retire in 0-2 yrs here. Playing it by ear on the work front since there is lots of discussion about a potential buyout (voluntary layoff). We've had two rounds already (2013, 2014).


I'm of ER age and when I retire I'd like to payoff home/HELOC at that time (wishful thinking).


Have about $720K in 401k. Pension will be $3,077 (non-COLA) a month as of April 1st 2016 (not that I keeping track--Ha).


I also have a smaller unsecured line of credit ($14K). No balance there. This recent HELOC was for $150K (so this is the $26K I owe).


As ERD50 pointed out there are times I wish I would have invested that $600 a month for the last three years. My post tax small brokerage account has done pretty well during this timeframe (INTC, GE, GM, DE, AVA, DUK) type stocks