Home Equity Loans (or Cash-Out Refinancing): Should You Use Your Property To Loan More Funds?

When used right, home equity loans can be a very useful tool and can also grow your wealth. Similarly, if used unwisely, you may literally be risking the roof over your family’s head.
home equity loans cash out refinancing

In Singapore, many people have the bulk of their net worth tied up in their property. Depending on your home, you are essentially sitting on anything from a few hundred grand to over a million dollars. 

Home equity loans (also known as term loans or cash-out refinancing) allows homeowners to “unlock” the monetary value of their properties, giving you access to a larger loan amount. 

Since this uses your property as collateral to secure a loan, the interest rates are much more attractive than other kinds of unsecured loans (like personal loans, for example).Also, the amount you can cash out can be significant. 

When used right, home equity loans can be a very useful tool and can also grow your wealth. Similarly, if used unwisely, you may literally be risking the roof over your family’s head.

 

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5 Things to consider before taking out a home equity loan

Before you proceed to take out a home equity loan, here are five questions you need to ask yourself.

 

1. Can I take out a home equity loan?

In Singapore, you can only take out home equity loans on private properties. This means HDB flats are not applicable for home equity loans. On the HDB website, it explicitly states that “you are not allowed to use your HDB flat, which has been fully paid for, as collateral to banks to raise credit facilities for private reasons.”

If you own an Executive Condominium (EC), you will have to wait until after you complete your 5-year Minimum Occupation Period (MOP) before being eligible for a home equity loan.

You can take out a home equity loan on a property with an existing mortgage, provided you do so with the same bank.

 

2. How much can I cash out from my home equity loan?

The usual mortgage rules apply: When taking a home equity loan, you will still need to maintain the minimum loan-to-value (LTV) ratio of 25%. This means you can only cash out up to 75% of your property value (assuming it is fully paid).

You are not allowed to cash out the CPF portion of your home equity, which means any CPF savings used to pay for your home down payment and monthly mortgage in the past cannot be cashed out.

You also need to adhere to the total debt servicing ratio (TDSR), which stipulates that your total monthly loan repayments cannot exceed 60% of your monthly income. However, the TDSR does not apply if you are borrowing up to 50% of your property value.

Finally, your credit history may also affect how much the bank is willing to loan you.

 

3. What are the costs involved in getting a home equity loan?

You can expect administrative fees such as legal and valuation costs that will likely amount to between $3,000 and $4,000. Depending on the amount you intend to cash out, it may or may not be worth it. For instance, if you are only cashing out $100,000, this will immediately bite off 4% of your cash in hand.

Besides this, you’ll need to be able to keep up with your monthly repayments on the home equity loan. Otherwise, you risk having your home repossessed by the bank. Also, you cannot use your CPF funds to pay down your home equity loan.

One potential positive is that if you are taking a home equity loan on an investment property, you may be able to get tax deductions on your interest.

 

4. What should I use the extra cash for?

Home equity loans do not dictate what you use the money for, but being able to cash out such a large sum of money can be a boon or a bane. Ultimately, it is how you use the funds that will determine whether this is a good or bad financial decision.

If you are thinking about buying a new car, booking an expensive world tour (in a post-Covid-19 world) or upgrading your home renovation, you may be spending your money on things you are not able to afford. These are not must-haves in your life, and you need to question whether you want to spend a large chunk of your net worth on it while having to shoulder another long-term financial obligation.

On the other hand, if you require the money to pay off high-interest unsecured personal loans or heavy credit card debts, you may be saving a lot of money in the long run. 

If you want to use the money to invest in the stock market or start a business, you may also be able to work your money harder and earn superior returns as compared to the interest you have to pay. Of course, that also means an additional investment risk that you are taking on.

If you have fallen on hard times, especially if you have been retrenched during the COVID-19 downturn and need the cash to maintain you and your family’s daily living expenses, a home equity loan may also be one of the lowest-cost options available. However, you’ll need to ensure that you can set aside sufficient funds to meet the monthly repayments required.

 

5. Can I afford to service the home equity loan?

Just because a home equity loan is one of the cheapest loans you can get doesn’t mean you should use it. You have to determine your ability to service the recurring monthly loan subsequently.

If you are nearing retirement and prefer winding down in life, shouldering a monthly debt repayment can be stressful when your income dries up. On the other hand, if you have sufficient cash flow monthly and can make better use of a lump sum money to invest, taking a home equity loan can potentially build your net worth significantly.

 

Conclusion: Home equity loans can be useful, but don’t get one frivolously. 

“Unlocking” the value of your home sounds great and all, but at the end of the day, a loan is a loan, and it is unwise to take on extra debt frivolously.   Always ensure that you are going to put the money towards a prudent use as administrative expenses can be steep and if you aren’t able to keep up with your repayments, it may be the roof over your head that is at stake.

Once you determine that it makes sense, going about getting a home equity loan can be complex. That is where PropertyGuru Finance comes in: we can provide you with customised recommendations from our team of experienced home finance advisors and handle all the tedious home loan application processes for you. 

The best part is that PropertyGuru Finance is completely free, so why not, right? 

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