Should you use your home equity to make an investment? Experts weigh in
Your home is a big investment, and for many homeowners, it's their largest. If you're trying to meet the money goals you've set to solidify your financial future, though, you could be trying to free up cash to make other types of investments.
And, while it makes sense to try and find room in your budget to allocate more toward investing, you may have other options. For example, your home equity might be worth tapping into for investing via a home equity loan or home equity line of credit (HELOC). These equity-tapping options allow you to borrow against your home equity, typically with competitive interest rates compared to unsecured loans.
But is it a good idea to use money from your home's equity for investing? Here's what experts have to say.
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Should you use your home equity to make an investment? Experts weigh in
There are times it makes sense to consider using your home equity to make an investment and times it doesn't, experts say. Here's what to factor in as you make your decision:
The interest charges
While home equity loans and HELOCs typically offer competitive interest rates, it's important to consider the cost of the interest you'll pay and how it relates to your expected return before using one or the other to invest.
"It depends on the rate you can get for a loan on your home equity," says Alex Blackwood, co-founder and CEO of Mogul Club, a real estate investing app. "You have to approach it as a relative cost of capital. For example, if you can get an interest rate at 8% and make an investment that will achieve a 10% return, you should definitely make that investment because you are earning an incremental 2%."
If your interest rate on the home equity loan or HELOC is higher than your rate of return, though, the investment likely wouldn't be worth the total cost of the loan.
Access more investment capital using your home equity today.
The tax implications
If your investment is profitable, you may need to pay capital gains taxes on your profits. As such, be sure to factor in the potential cost of any tax implications that could arise when determining whether to tap into your home's equity for investing purposes.
"If you are confident that your after-tax returns will exceed the cost of capital, then it could be considered," says Matt Willer, managing director of capital markets at Phoenix Capital Markets, an investment management firm.
Other funding options
While many experts say that certain situations warrant using your home equity for investing, some say you should avoid doing so, as it may be too risky.
"I can't think of a situation when using home equity to make an investment is a good idea or in one's long-term best interests," says Rob Burnette, investment advisor representative at the financial planning firm, Outlook Financial Center.
"I typically don't recommend using home equity to make an investment," says William "Billy" Hatton, CFP, owner of Billfold Budget Counseling. "While you may be diversifying your real estate exposure, you're still taking out debt for an investment, which is a risky proposition."
In turn, you may want to consider weighing any other funding options you have instead.
Talk about your home equity borrowing options with a professional today.
The bottom line
Whether or not it makes sense to use your home's equity to fund your investments depends on a range of factors. As you decide whether it's the best path for you, be sure to weigh the cost of the loan and the tax implications of the investment against your potential returns as you make this decision. And, in some cases, you may want to avoid this route altogether and consider the other funding options you have before tapping into your equity.
