How Canadians can use home equity: home equity loans and home equity lines of credit

One of the main advantages of being a homeowner, other than loving your home, is the ability to build equity. Over time, as you continue to make your regular mortgage payments and pay down your mortgage, you create equity in your home.

Home equity is the difference between the amount your home is worth (market value) and the amount you owe on your mortgage and any other loans secured against your home. For instance, if your home is worth $500,000 and you owe $350,000 on your mortgage, you have $150,000 in home equity.

As a homeowner, you can use the equity in your home to secure a lower-cost term loan or line of credit that can help you to fund your home renovations, your child's education, or to fund the down payment on a second home.  If you have a mortgage on your home already, you may need the consent of that lender to register a second mortgage on title to your property.

A home equity loan is a secured term loan that allows homeowners to borrow money against the equity in their home. The home equity loan will be secured by a mortgage registered on title to the home, meaning the lender can claim and sell the home if you default under the loan.  How much you can borrow will depend on the amount of equity you have accumulated.

With a home equity loan, you can typically borrow a larger amount of money at a lower interest rate than you can with an unsecured loan.

A home equity term loan comes in the form of a one-time lump sum amount. This amount can be up to 80% of the appraised value of your home, minus the balance of any prior mortgage.  It has to be repaid over a specified term unless it is renewed at the end of that term. 

A home equity line of credit (HELOC), is a secured form of revolving credit. As with a home equity term loan, a HELOC will be secured by a mortgage registered on title to the home, meaning the lender can claim and sell the home if you default under the HELOC.

A HELOC is a form of revolving credit. Revolving credit allows you to borrow money whenever you need it up to a predefined credit limit. As long as you have credit available, you can continue to borrow against it. Currently, the credit limit for a HELOC with a federal financial institution can’t exceed 65% of the home’s lending value.

Home equity lines of credit typically come with a variable interest rate that is tied to the lender’s prime rate, which means your rate can fluctuate over time with interest rate changes.  Your payments will vary based on how much money you currently owe on the line of credit and the applicable interest rate.  You only pay interest on the amount of money that you use.

Many banks and lenders offer home equity loans and HELOCs to access equity in a customers’ home. At Scotiabank, these loans can be set up as part of the Scotia Total Equity ^® Plan (STEP),* which is a flexible borrowing plan tied to the equity in your home. STEP is unique because it provides more flexibility by giving customers the option to choose up to three home equity loans (mortgages) and three lines of credit, all secured by one first priority mortgage.*

To estimate how much equity that you've built in your home, subtract the loan amount owing on your current mortgage and any other loans secured against your property from the market value of your property. For example, if your home is valued at $500,000 and you still owe $350,000 on your mortgage, you have $150,000 in home equity.

You can also use this information to estimate your current loan-to-value (LTV) ratio. Your loan-to-value ratio is a calculation used by financial institutions to assess the level of risk associated with lending on the security of your home. The LTV ratio will impact how much a lender can lend to you on the security of your home and potentially the interest rates that are offered to you for those loans. 

To estimate your current LTV ratio, you divide the amount of money borrowed for your mortgage and any other loans secured against your property by the current appraised value of the property. Lenders use the lower of the property’s market value or appraised value to determine the LTV ratio.

When you apply for a home equity loan or HELOC, in addition to your LTV ratio, lenders will also check your credit score to see if you have good credit. They will also, among other things, ask for proof of income and look to see if you have an acceptable debt to income ratio.

A home equity loan and a HELOC can both be great options, as either one can be used for a wide range of purposes including funding a new home purchase, home improvements, or even debt consolidation. Some Canadians have used the equity in their home to help them through tough financial times due to the coronavirus pandemic.

If you're trying to decide between a home equity loan and a home equity line of credit, start by considering your specific needs. If you know upfront precisely how much you need to borrow and exactly how you intend to use the money, a home equity loan may be the right choice.

On the other hand, if you're unsure about how much money you need or when you will need it, a HELOC can be a more flexible option.

Also, consider which loan terms you are more comfortable with. Do you prefer a loan that you pay down on a schedule over a term? Or, are you comfortable budgeting with a variable interest rate and revolving credit?

When deciding whether a home equity loan or a HELOC is the right choice for you take some time to weigh the specific pros and cons of each.

• Access – depending on how much equity you have built in your home, you may be able to access a larger amount of money
• Fixed repayment periods – It can be easier to budget for your payments and manage your debt load when you have fixed repayment schedule.
• Flexibility - You can use a home equity loan for almost anything from renovating your kitchen to paying for a wedding to sending your children to university.

• Higher interest rates – Depending on the priority of the mortgage securing a home equity loan, you may pay slightly higher interest rates than with a HELOC.
• Loan default - If you default on your loan payments, your lender could potentially claim and sell your home.

• Flexibility - You can use a HELOC for almost anything including financing your children's education, paying off a higher loan balance, or possibly even refinancing your first mortgage, depending on your credit limit.
• Interest - You only pay interest on the amount of money that you use.
• Easy access - The money is there and available whenever you need it. You don't have to apply for a new loan each time you need money.
• Lower interest rate- You may pay lower interest than with an unsecured loan and potentially on a home equity loan depending on the priority of the mortgage securing it.

• Variable interest rate – It could go up at any period of time depending on your lender’s prime interest rate, potentially causing your loan payments to rise.
• Easier to accumulate debt - Because the HELOC is so flexible in terms of how it can be used, it can be easy to accumulate debt if you are not careful about how you use it. Similar to a credit card, or personal loans, you need to use it carefully to make sure you aren’t facing too much debt.
• Loan default- If you default on your loan payments, your lender could potentially claim and sell your home.

You can check out Scotia Total Equity Plan (STEP).

If you are interested in applying for a mortgage online, you can visit Scotiabank's mortgage hub.

To estimate your monthly mortgage loan payments, you can use Scotiabank's mortgage calculator.