 Using
HELOC as emergency fund
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 Dear
Dr. Don,
I'm 37, own a home, but have no real savings except for an IRA with
about $77,000 invested in mutual funds. I have no emergency fund
to speak of. Is it OK to have a home equity line of credit instead
of the emergency fund? My home is worth about $480,000, and I currently
owe $245,000.
-- Rich Redeployment
 Dear
Rich,
A home equity line of credit, or HELOC, can serve
as a nice backstop in providing you with funds in a financial emergency.
If you decide to take this route, it's important to have the credit
line in place before you need it. A downside to a HELOC is that
it's an adjustable-rate loan in what is
currently a rising interest rate environment.
There are costs associated with this approach. Closing
costs or any minimum distributions or prepayment penalties on the
loan can make it an expensive proposition. Some HELOCs will charge
you a prepayment penalty in the early years of the loan, even when
the reason for the prepayment was the sale of your residence. (That
happened to me once.)
If the HELOC comes with a credit card, you want to
avoid the temptation to use the credit card for nonemergency purchases.
You don't want to borrow against your house to pay for a night on
the town. Activate the card but put it somewhere safe and out of
reach, like in your safe-deposit box. You'll be less impulsive with
the card if you have to go across town during banking hours to use
it.
If you plan to use the HELOC for any other reason,
make sure you get a large enough line to cover both needs. If you're
planning to use the HELOC to finance an automobile, for example,
you'd want to still have enough room on your credit line to handle
a short-term financial emergency.
Even
with a HELOC in place, you still should have some money in cash. It doesn't have
to be three to six months worth of living expenses, but you do want to get past
the point where you're living paycheck to paycheck in your cash account.
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