Should You Use a Home Equity Line of Credit to Pay for College?
For a lot of people, figuring out how to pay for college can be stressful. Financial aid might only cover a portion of college expenses, and then you’re left wondering if you should take out student loans, which loans are right for you, and if the debt is worth it.
There are other options than the traditional route of financial aid and student loans. If you own your home, you might be able to take out a home equity line of credit (HELOC), and use that to pay for tuition and other college-related expenses.
Low, adjustable rates and other factors can make HELOCs an attractive option for paying for college. There are some things to consider before you make that decision, though.
Do you have enough home equity?
HELOCs provide a line of credit based on the equity you’ve built in your home. You can borrow as much or as little as you want from this credit line.
For example, let's say you have $500,000 in equity, and your current mortgage is $300,000. Assuming you're approved to borrow up to 80% of your equity, then your maximum loan amount would be $100,000. The formula looks like this: (500,000 x .80) – 300,000 = 100,000.
With that $100,000, you can borrow as much or as little as you want, up to the limit. Here's where the flexibility and appeal of a HELOC comes in to play. If you never actually use more than, say, $20,000 of the credit line, you will only pay interest on that amount.
Find out how much you can expect a college loan to be by using our save for college calculator.
Will it affect financial aid?
Short answer: it depends.
A home equity line of credit could be counted toward your estimated family contribution on financial aid forms if it’s a second or investment home. This could reduce the amount of aid offered.
However, if the line of credit is on your primary home, it won’t affect financial aid calculations.
So, if you own multiple homes, using a HELOC on the primary home is probably the best way to go.
Are there better loan options?
Home equity lines of credit aren't the only options out there. There are many ways to pay for college tuition and other related expenses. Depending on your situation, they could be better options.
If you don't own your home or have bad credit, a federal PLUS loan might be your only option. PLUS loans have fixed rates that are usually higher than HELOCs. These loans do have some benefits however, such as loan deferment and flexible payment options.
Private lenders, such as Sallie Mae, also offer college loans. Rates on these loans can also be higher than those on a HELOC. If you have good credit, a private lender may be able to offer a low rate.
Pros and cons of using a home equity line of credit to pay for college
Even if a HELOC seems like an attractive option to help pay for college, there are some things to consider. Make sure you weigh the benefits and drawbacks before you commit to a decision.
- The ability to only borrow what you need. If you only have to withdraw $20,000, that’s the amount you’ll pay back.
- Better interest rates. If you’re taking out a HELOC for your child, you might be able to get better interest rates than they can with private student loans.
- Lower initial monthly payments. During your initial draw period, you’re only required to pay back the interest on your HELOC. This allows you more time to save before the principal is due.
- Credit score implications. The more you withdraw from your HELOC, the higher your utilization rate. Heavy credit utilization can impact your credit report, which could cause your score to drop.
- Unpredictable interest rates. Although HELOCs tend to have low interest rates, they can be unpredictable if the market isn’t stable. While this may not cost you more in the long run, it can be hard to plan for your next payment.
- Risk of losing your home. Since your home is used as collateral when taking out a HELOC, you run the risk of losing your house if you’re unable to make payments on the interest or principal once it’s due. If your financial situation isn’t stable, and you don’t feel comfortable making monthly loan payments, you might not want to risk having your home taken from you.
There are many ways to pay for a child’s college education, including traditional student loans. As a homeowner, you can use your home’s equity to your advantage. But just as you’d expect your child to study for an exam, be sure to do your homework to determine which loan is best for you.
If you still have questions about home equity lines of credit, the application process, or anything related to mortgages in general, our Real Estate Loan officers are here to answer your questions.