Use a HELOC as an emergency fund
Having an emergency fund may help you sleep at night but it’s costing you more than you think. For each dollar you have in low interest bearing accounts you have one less dollar invested at decent returns. For some people, the new trend is trading in the cash reserves for a HELOC.
A HELOC is short for a home equity line of credit, or a line against the value of your home. A HELOC allows you to borrow money whenever you need for almost anything you need, sometimes offering credit lines as high as hundreds of thousands. Whatever you own of your home is what you can borrow against. For this reason, HELOCs are a good way to protect yourself from lost jobs or unforeseen medical expenses.
An emergency fund is usually suggested to be worth 3-6 times a month’s earnings. Keeping this much money around in liquid investments can protect you in the case of a lost income or a pricey purchase. Unfortunately keeping large stashes of money around means that your retirement funds grow more slowly.
A HELOC is a great substitute for a cash emergency fund. You can write checks whenever you need a quick loan and you’ll only borrow money when you need it, rather than having it sit around all the time. For some people, emergencies rarely happen so keeping thousands stored in low income investments is a hindrance rather than a benefit. Rather than lose in interest all the time, only pay interest when you use your emergency fund.
A HELOC provides instant cash when you need it just like an emergency fund and usually comes with lower rates than most traditional loans. HELOCs can be used to pay medical bills or buy groceries when finances are tight. A HELOC is a great substitute for a cash emergency fund because it will allow you to invest your emergency fund surplus into a retirement fund or investment account, earning you better returns on your money. While you can’t finance your retirement, you can finance an emergency. A HELOC gives you the flexibility you need without the high interest costs or tying up thousands of dollars.
Related posts:
February 24th, 2008 at 11:12 pm
I wouldn’t count on a HELOC for an emergency fund. As of late, banks are reducing the amount of HELOC credit available on existing accounts. It would be a sticky situation if you lost your job without having much liquid savings then found your HELOC reduced as well. IMHO, people should get away from relying on credit and concentrate on saving.
February 25th, 2008 at 12:42 pm
I’ll second what savvy said. An emergency is NOT a good time to get deeper in debt! An emergency is the time you need to hunker down and batten the hatches, and you often can’t be sure just how long it will last. I’m sure there’s quite a few folks in Michigan who would disagree with this advice as well. Or maybe in California or south Florida or Nevada or Arizona, where the housing bubbles have burst most dramatically.
In fact, just what is your advice for people who suddenly find themselves upside down in their mortgage when housing prices for their area tank?
February 26th, 2008 at 12:33 am
To clarify, the difference from the emergency fund should be put in higher yield investments rather than put in cash. If you put your emergency fund in a better yielding account, borrowing when you had an emergency could easily be covered by what you save. In no way am I recommending that you spend the money you would ordinarily save, I’m telling you to save the money you’d save more wisely; get higher returns on it but protect yourself in the mean time.
February 26th, 2008 at 11:22 am
Uh, NO. Your emergency fund should NOT be put in ‘high-yield invesments’. It should be kept in ’safe’ accounts such as online savings accounts or MMAs. What if your investments are down when emergency strikes now you have to sell at a loss?
March 20th, 2008 at 2:43 pm
I have to say that is really not good advice at all. Any financial professional will tell you that having an emergency fund is a smart financial move. No (good) financial professional would tell these people to use debt over savings. That is just bad advice, plain and simple.
Perhaps you are confusing the “trend” with people who use money merge accounts to pay down their mortgage instead of having these funds sitting around, then using the HELOC for emergencies, but still the recommendation is always to have an emergency fund because it make more sense to earn interest than to pay it.
August 13th, 2008 at 3:44 pm
Doesn’t work if your house value drops….. ahhh…. the market dropped. I don’t think the house I bought two years ago is worth what I paid. Think it dropped at least 10-15%
October 6th, 2008 at 2:41 pm
This is very risky advice to be giving out on a blog. This idea may work for some people (I’d never recommend it for anyone) but not all. Helocs usually have variable interest rates which can destroy your financial plan overnight. If you need an emergency fund than save up some money for a few months.