Boost Your Wealth Accumulation Through Home Equity Loan
How do you make money with a property asset?
If you’re like most Singaporeans, you will probably say “rent it out”, or “sell it for capital gain”. Indeed, these are the most commonly understood ways in which to monetise your property.
However, there is a third option that is open to owners of private property – and that’s to use it for a home equity loan.
What Is A Home Equity Loan?
Annoyingly, there are multiple terms used for this kind of financing. You may also hear it called a ‘second mortgage’, ‘reverse mortgage’, and ‘cash-out refinancing’.
Other common terms meaning almost the same thing are ‘equity term loan’ and ‘term loan’. There may be a slight difference between these two terms: an equity loan helps you tap into the value of a fully paid for property; whereas a term loan helps you do the same for a property that has not been fully paid for. But the general principle is the same.
Fundamentally, a home equity loan is a secured loan against the value of your home at a very low interest rate. It lets you ‘cash out’ with funds delivered as a lump sum.
Difference Between A Home Equity Loan and Home Loan
An equity loan is a loan you take after you have ownership (equity) in a property.
On the other hand, you take a home loan to purchase a property and start building equity in it.
The eligibility of an equity loan is based on the value of your property; a home loan is dependent on your ability to pay, which is usually your income.
Unlock the Value of Your Property
Let’s say you bought a condo for $800,000 in the year 2000. Today, the condo is valued at $1.2 million. As such, you have about $400,000 of untapped value in the property.
In normal circumstances, the only way to unlock this $400,000 is to sell the condo. But this is not always ideal.
Maybe you are getting exceptional rental yield on your investment property.
Or your property can still appreciate much further.
Or you simply don’t want the hassle of having to move house.
A home equity loan provides a solution to this. It allows you to borrow up to 75 per cent of the new value of your home (up to $900,000 in this example), as a loan.
Since an equity loan is a secured loan using your property as collateral, the interest rate is extremely low – it can be fixed at just around 1.6 per cent per annum* (although the exact terms vary based on which bank you approach).
*At this point of writing, the interest rate for home equity loan can be as low as 1.15% (SIBOR + 0.05%). Do check with your banker or broker for the most current rates.
Why Is A Home Equity Loan A Good Financing Option Compared To Normal Loans?
The interest rate of a personal loan is usually in the range of six to nine per cent per annum.
These are some typical rates for different purposes:
Type of Loan
2.98% – 5.8%
Business term loan
3.5% – 6%
Debt consolidation plan
4% – 6%
4.5% – 5.88%
At just 1.6 per cent per annum*, a home equity loan is probably the cheapest available option.
Usages of Home Equity Loan
A home equity loan can provide a big enough loan quantum to cover costs such as studying overseas, children’s education, seed capital for a business, etc.
There have also been cases where individuals use home equity loans to consolidate their debts.
For example, say you owe $150,000 in loans, at rates of six to nine per cent interest. You may be able to borrow this amount via a home equity loan, and then pay off all that high interest debt.
You would then have to service only your home equity loan, at a much lower rate of 1.6 per cent. You don’t even need to sell your house to do it.
If you are thinking of investing in another property, and wish to take a maximum Loan-To-Value (LTV), you can take the Equity Loan to pay fully off your existing loan. In this case, the next home loan you are taking will be considered as your first loan, hence eligible for 75%.
Can a Home Equity Loan Be Used For Investment?
Home equity loans are often used for investment, as the interest rate is exceptionally low.
For example, you may have noticed that an interest rate of 1.6 per cent per annum is even lower than the risk-free, guaranteed CPF rate (2.5 per cent, or four per cent for your CPF Special Account).
Note that you can even put the money back into your CPF if you wish. In this way, you are enjoying a positive carry trade of more about 0.9 to 2.4 per cent (depending on the prevailing equity loan interest rate).
But this action must be taken with great care because once you deposit the cash into the CPF OA or SA accounts, you cannot take it out in cash. You can, however, use the funds in OA to pay for your housing loan payments on an investment property.
Savvy investors may even use the equity loan to invest in stocks, especially in a crisis like Covid 19 pandemic where stock values have dropped to a very attractive value.
As such, it’s not uncommon for property investors to use home equity loans, to seize other profitable opportunities.
How Much Can You Borrow?
The amount you can borrow is:
(Up to 75 per cent of your property value) – (outstanding home loan) – (Total amount of CPF used)
For example, say your property value is $1.5 million. You have $300,000 outstanding loan, and you have used $500,000 of your CPF. The total you can borrow is:
$1.125 million (75 per cent of property value) – $300,000 (outstanding loan) – $500,000 (CPF) = $325,000
Terms and Conditions
- The only properties for which you can use this loan are private residential properties, industrial properties, and overseas properties*.
- For those who own Executive Condominiums (EC), you will need to meet the 5 year Minimum Occupation Period (MOP) before you can qualify.
- If you have an outstanding home loan, you can only get a home equity loan from the same bank that holds your mortgage. You cannot owe the same property to two different banks at once. If you’ve fully paid off the mortgage, you’re free to shop around and find a bank you like.
- Most home equity loans come with fees of between $2,500 to $3,000; you may also need to pay for a valuation of your property (around $500), if it’s been several years since one has been conducted.
- You must pass the usual requirements needed to take on property loan, such as the Total Debt Servicing Ratio (TDSR).
*In practice, Singapore banks tend to only offer the loan on properties in Australia, the UK, and some states in the US.
If you’re not sure what the usual requirements are for property loans, drop me a Whatsapp message, and I can explain them to you.
When Should You Use A Home Equity Loan?
A home equity loan can be used for needs such as settling higher interest debts, tapping into other investment opportunities, or other financial plans undertaken with advice from a qualified financial professional.
Home equity loans should never be used for non-essential expenses, such as buying a sports car or expensive watch.
In addition, it’s important to make sure you can service the home equity loan, as your property is the collateral. Treat it with the same respect as you would another home loan.
For more discussions on how to build a road to wealth with property, visit me at Danny Han Property Wealth Planning. Feel free to drop in and ask me anything or schedule a zoom meeting with me using the calendar below!
Danny Han has been a licensed real estate agent since 2005. He also had five years of experience as a financial consultant. The insights and knowledge he shares in his blogs are the results of years of experience in helping many of his clients in their Property Wealth Planning.
Prior to becoming a real estate agent, Danny was a full-time church pastor (don’t be shocked!) for 23 years. Even now, he is still actively involved in church work and preaches regularly. He has also made six mission trips to Myanmar to-date.
Danny is a foodie, so during his spare time he would go with his kakis to try different “CNG” (cheap and good) food. (Be sure to check out his Holland food blog in this site).
Do feel free to drop him a Whatsapp message for a non-obligatory discussion if you are planning to grow your property wealth.