Home Equity Loans: Stairway to Business Success or Highway to Bankruptcy?
When we say start-ups and SMEs we automatically imagine a 20-something-year-old person powering the think tank. However, recent data suggests that most business owners right now are in their 40s and a significant number of them are also in their 60s.
The financial trends of businesses differ significantly between the different age groups. While millennial owners are more likely to opt for crowdfunding, angel funding and venture capitals, the older population is more likely to choose small business loans from reputable financial institutions and secured loans from banks.
Why do business owners choose home equity loans for funding their ventures?
A majority of the population, who prefer secured loans over alternative funding options, like to go with 401k equity lines of credit and home equity loans.
One of the driving forces behind this trend is the lower interest rates and pocket-friendly APRs that come with secured loans.
Since these secured loan companies can hold their IRA accounts or their home equity as collateral, they can sanction their low-risk loans at much lower, flat interest rates.
People are likely to find funding more easily once they opt to borrow against their home equity. It is even true for potential entrepreneurs without any business experience.
Home equity loans come with fixed rates, flexible payment terms and they have funded millions of new businesses across the world in the last few years.
Second mortgages on your home can work as a quick source of cash when you do not have the time to go through lengthy credit check processes. On top of that, they provide fantastic tax relief to borrowers each year.
Why should you double-check before choosing a home equity line of credit?
The truth about start-ups is that about 50% of them go broke in the first five years. The lack of proper funding and fund management contributes significantly to their failure. Now, going broke is one thing, and becoming broke AND homeless is another! No one wishes to be in this situation, irrespective of his or her location and current financial status. In case your business fails, and you default on a couple of payments to your lender, the company can foreclose your home.
Borrowing amounts worth more than your home equity is the downhill ride to bankruptcy you need to avoid. Your home is one of your most significant investments, and you need to weigh the pros and cons before you very carefully before you take the decision.
The facts about the second mortgage that demand a second thought
A Home Equity Line of Credit (HELOC) and Home Equity Loans (HEL) opens new windows of opportunities for many new business owners, but the question you need to ask right now is whether it is the right option for you.
Processing fee and other fees
Any loan against home equity comes with many processing fees. The entire application process and the appraisal process require significant cash amounts. These are a part of the fine print, and not following the paperwork can catch you by surprise.
As an SME or a startup owner, you must already be managing several debts and lines of credit. Opting for a new loan is a great idea to fund your new projects, but spending a bunch of hard earned money on processes, even before you get your hands on the hard cash can be disruptive for your business processes and your current investments.
Variable interest rates
We know how much you love the low-interest rates most HELOCs brandish, but did you know these interest rates can become floating?
Usually, the first 5 to 10 years comprise the draw period and the next 10 to 20 years are your repayment period. The chances are that the interest rates for the next 10 to 20 years are not going to be the same as they are right now. You may take the loan attracted by a 5% interest rate, but by the time it is time to pay the creditors back, your market rate can reach up to 13% or even 15% depending on the status of national and international finances.
On the other hand, there are fixed-rate loans against home equity that offer lump sums to the borrowers. These not only bear fixed interest rates, but they also stick to the same payment terms for the lifetime of the loan. While applying for a new business loan, you need to check if the lender is giving you a fixed interest loan or a HELOC.
Complications in monthly payment
Most entrepreneurs become lost in translation when it comes to repayment. The payments can include many interest rates, fees, possible penalties and a part of the principle. Not being able to calculate it can leave insufficient funds in your debit account.
Defaulting on second mortgage payments is easier than you think! You need to use at least one professional payment calculation tool or take the help of a debt counselor to be able to estimate the payable to the correct decimal. Especially since your home is involved in the HELOC, you need to think about your family expenses and talk to them about the increasing monthly costs before you even apply to borrow against your home equity.
Keeping aside all the risks and all the controversies surrounding HELs and HELOCs, let us dive right into the other set of facts. All kinds of home-equity loans can be profitable for the borrowers depending on the way they are using the cash. Just remember not to borrow more than what your home is worth.
The HELs with fixed rates of interest are high for funding single, one-time expenses for entrepreneurs. The HELOCs are great for short-term reiterative costs like payment of vendors and utility bills for business facilities. Up until you can stay away from reloading, you can safely use your home equity as collateral to borrow a lump sum to fuel your dreams.
3 thoughts on “Home Equity Loans: Stairway to Business Success or Highway to Bankruptcy?”
Good evening. Thanks a lot! Useful article!.
Thank you so much for the great article, it was fluent and to the point. Cheers.