Advantages and disadvantages of using home equity funds

Advantages

• Fast. You can get approval for a home equity loan quickly.
• Good for new businesses without a track record or financial statements.
• Lower interest rate and lower monthly payments than credit cards.
• Flexibility to use the funds any way that you want.
• Little paperwork; no business plan; no tax returns.
• With equity lines of credit, you only pay interest on the funds that you use.

Disadvantages

• You are mixing personal and business assets. Corporations, in particular, should not do this. (Corporations can have personal loans between the corporation and a shareholder, but it must be documented.)
• With no business plan, there is a strong temptation to use the funds haphazardly.
• Your spouse will be very unhappy if your business fails and you lose equity in your house.

Use equity for SBA guaranteed loan?

Instead of using the equity directly in a home equity loan, consider using it as collateral for an SBA loan. Although the loan process will take longer, your money will go further.

For example, if you have $50,000 equity that you could use in a line of credit, consider using that as 20% collateral for a $250,000 SBA loan.

Remember, that you have to pay back the full amount of the loan, so be sure to have a solid repayment plan.

Line or loan

A home equity line of credit allows you to use some or all of your equity (up to the line of credit limit). Payments are based on the amount of the line that has been used. You are expected to continually use and pay down your equity line of credit; there is no loan payoff-date.

Equity lines are best for purchases that you will be able to repay in one or two months. Usually there is an annual fee for a line of credit.

A home equity loan is a fixed amount that you take and use. Payments are fixed each month and you are expected to pay the loan off at a future date. Home equity loans are best for lump-sum purchases that you want to pay back over time. There are no annual fees for home equity loans.

Corporation? Here are some tips

Officially, you are not supposed to combine personal assets with corporate assets. If you use home equity loan to fund your corporation, you should do it as purchasing stock or as a loan between the corporation and yourself. Either way, you should document it in your corporate minutes and advise your accountant.

Home equity lines of credit mix personal assets with corporate assets and really aren't appropriate for funding corporations.

Best Practices

• Make a plan.
  • Why do you need the money?
  • How much do you need?
• Take some time to decide how you can make your equity work the hardest for you.