Different horses for different courses …

I posted recently on using a HELOC as part of your emergency fund strategy and Diane noticed that I had mentioned my own use of a HELOC in an older post about my own home purchases.

Diane said:

I’m confused. You pay cash for the houses, then take a HELOC? If memory serves me, you never hold more than 20% of the house value, AND mortgages interest rates are usually lower than HELOC’s interest rates AND mortgage interest is also tax-deductible (at least to me)whereas the HELOCs may not be (seem not to be by what I’ve read). What am I getting wrong here? (and thanks for tackling this subject!)

This is a great question because it highlights how the rules of money ‘flip flop’ when you move to the next stage of wealth: from Making Money 101 to Making Money 201, then Making Money 201 to Making Money 301.

And, I have two quick comments to make on these transitions that I will expand on in future posts:

1. These are not necessarily hard/sudden transitions e.g. while you are still getting your financial house in order (Making Money 101) you can also start to increase your income (Making Money 201); before you fully retire, you may also be working on migrating your investments to help you preserve your wealth (Making Money 301).

2. The rules of money DO change during these transitions, which serves to explain why many people who do well with Making Money 101 falter at Making Money 201 (for example, they are unable to open themselves up to the idea of increasing debt after they just finished working so hard at eliminating their ‘old’ debt).

And, the HELOC is a great example of both …

In the post on Emergency Funds, I floated the idea of not taking a guaranteed loss (by parking 6 months cash in a CD, as most ‘experts’ recommend) to forestall a potential disaster. I suggested building up reserves for known/expected costs, and using a combination of insurance and HELOC’s for the true ‘unexpected’ emergencies.

This is a great Making Money 101 and Making Money 201 strategy as it provides more capital for investment, in the likely event that there will be NO serious emergency … of course, if you do have an emergency you may have a more difficult recovery if the cash isn’t already conveniently sitting in the bank.

Your choice, entirely.

But, as a Making Money 301 strategy? Well, I have enough cash on hand at all times to cover any emergency … or, opportunity. I don’t need a HELOC for that … and, when you retire, neither should you.


The rules ‘flip flop’: you no longer have the time to recover from an emergency (your investments by now are mostly set for passive/fixed income … not growth), but you also don’t need to be investing 100% of what you have available in order to live.

When calculating your Number, you ‘anticipated’ emergencies and have arranged your finances and investments to that you have excess cash on hand at all times.

So, why do I have a HELOC?

Well, this comes to the second post that I mentioned:

When you are still Making Money (101 or 201) you want at least 75% of your Net Worth in investments at all times … and, this still holds true when you are retired and concentrating on preserving your wealth (301) … just in different investments.

So the 20% Rule ensures that you don’t have more than 20% of your Net Worth invested in your own home at any point in time.

This means that if you want to buy a house that costs more than 20% of your Net Worth (as it will for most in Making Money 101 and 201) you will need to borrow … for this, I suggest locking in a fixed-rate mortgage for as long as the bank will give it to you.

But, it also means that your house may cost less than 20% of your Net Worth … think about it: if your Net Worth was $7 Million, you could spend $1.4 million cash on a house.

If you wanted to borrow, say, another lazy million from the bank, then you could spend $2.4 million on a house (provided that you can cover the mortgage payments).

It all depends on your lifestyle needs.

So, my current house fit within the 20% Rule for me, cash paid. So, no mortgage required …

But, as I mentioned in that post, I hate seeing so much ‘dead money’ tied up in a house … so why not do something with it?

Hence the HELOC of approx. 50% of the value of the house: I use it to invest in stocks; if the market is travelling badly, I can cash out these stocks, pay down the HELOC and have little to no costs. Tax is only a small issue at these levels … I am well over the IRS maximum no matter which way I go.

But, when the market appears ‘right’ again, I can immediately draw down the HELOC and invest. For this specific purpose, the flexibility of a HELOC far outweighs the interest-cost advantage of a standard mortgage.

Of course, a better use for the ‘spare equity’ in my house might be another real-estate investment; since these are (for me) invariably ‘buy/hold’ a HELOC is poor for that purpose and I will then switch out of it.

Different horses for different courses … thanks, Diane!

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