Sitting on Tons of Equity? Here’s When to Tap It

Canada’s soaring home values mean homeowners are sitting on jaw-dropping amounts of equity.

Homes cost $733,300 on average in May 2024, up nearly 40% from $524,900 on average five years ago, according to the Canadian Real Estate Association.

In turn, Canadians have built a staggering $4.7 trillion (yes, with a ‘T’) in home equity, which accounts for between half and two-thirds of their overall net worth, according to data analysis from Clay Financial, a financial technology company based in Ontario.

And with inflation driving the cost of living higher, some Canadians might look to their home’s growing value to cover expenses or consolidate high-interest debt.

One of the most common ways to turn equity into cash is by taking out a home equity line of credit, or HELOC. While some Canadian banks offer lump-sum home equity loans, HELOCs tend to be more popular, says Carla Gervais, director of sales and operations and principal broker for The Mortgage Advisors in Ottawa.

However, getting a HELOC is a little harder than it used to be after the government put new rules into place in late 2023, Gervais points out.

Last year, The Office of the Superintendent of Financial Institutions (OSFI), Canada’s financial regulator, imposed a new rule: A HELOC credit line cannot exceed 65% of a home’s current loan-to-value (LTV). Previously, homeowners could borrow up to 80% of their home’s LTV.

The government adjusted its rules to ensure borrowers can better handle their debts and mitigate regulated banks’ lending risk, Richard Sklar of David Sklar & Associates, a licensed insolvency trustee firm in Ontario, wrote in a 2023 blog post about the HELOC changes.

“The Canadian housing market is vulnerable due to stubbornly high home prices and steep interest rates at the moment,” Sklar wrote. “A wave of defaults on HELOCs and mortgages could devastate the economy, which the OFSI wants to prevent.”

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When does a HELOC make sense?

An attractive benefit of HELOCs is that you can use the money however you wish. But a good rule of thumb says to borrow equity only when it can save you money or increase the value of your home over the long-term.

Common examples of this include paying off credit card debt or financing major home improvements.

With higher interest rates today, not as many people are rushing out to get a HELOC, Gervais points out. And with many mortgage renewals coming up that were taken out when rates hit pandemic-era lows, homeowners will feel the sting of renewing at today’s higher rates.

“[Homeowners] are more apt to maybe do a blend-and-extend with the rates [over a HELOC],” Gervais says. She adds that when homeowners renew their mortgages, they might be more inclined to take the current rate and a larger loan balance when they restart their loan clock again versus getting a HELOC at an even higher (and unpredictable) variable rate.

“It’s quite specific to what their needs are,” Gervais says of equity-tapping options. “It depends on when they need the funds, if they’re going to be able to pay it off quickly and what the use is as to what product they choose.”

No matter how you plan to use a HELOC, use the following tips to ensure you avoid a debt spiral:

Negotiate with your lender for a lower rate to keep your interest costs low, or consider shopping with another lender to re-advance your mortgage.
If your HELOC is above the newer 65% LTV borrowing limit, pay down the balance as much and as quickly as you can, and avoid running up more debt.
Strengthen your credit score, which can help you qualify for financial products with more favourable interest rates than a HELOC. You can achieve this by making on-time payments, lowering your credit usage ratio and not taking out new loans or credit card accounts.
Consider paying down more of your mortgage balance to increase your home equity, which increases your HELOC borrowing power.

Gervais agrees with being mindful about the decision to tap equity, cautioning homeowners to be strategic about how and when they use it.

“You’d want to use it smartly, and you want to make sure that it’s comfortable for your budget so that you can maintain it,” she says. “You don’t want to be house-poor.”

How to qualify for a HELOC

HELOCs work a lot like a credit card, only you’re borrowing your equity instead of a lender’s money. There will be a set limit that you can spend, pay off and reuse as needed over a set time, known as the draw period. You pay interest only on the amount you withdraw, and the rate is often variable during the draw period.

Once the draw period ends, you’ll enter repayment and pay off any remaining interest and the principal balance.

In addition to the new 65% LTV limit for HELOCs, here are other borrowing guidelines you’ll need to meet to qualify:

Credit score: You’ll need a minimum credit score of 650 to get a HELOC, though this can vary by lender, Gervais says. Typically, the higher your credit score, the lower rates you’ll qualify for, too.

Debt-to-income (DTI) ratio: Your DTI ratio is a measure of how much of your gross monthly income goes toward debt payments, including your housing expenses.

For HELOCs, with a lower credit score, the max DTI is 35% for housing payments alone and up to 42% for all monthly debts. For borrowers with credit above the minimums, the max DTI ratio is 39% for just your housing payments and no more than 44% for all debts, Gervais says.

Stress test: As with mortgages, the qualifying benchmark rate for a HELOC is either 5.25% or your lender’s rate plus 2%, whichever is highest, according to the Financial Consumer Agency of Canada.

“So with the prime rate at 6.95%, HELOCs at prime plus a half, you’re looking at a 7.45% rate, and qualifying at 9.45%,” Gervais points out.

Employment stability: If you’re in a full-time, salaried role with guaranteed income, you don’t necessarily have to be at a company for two years; you could be there for six months and still qualify for a HELOC, Gervais says. For those who are self-employed, lenders look at average earnings over two years, she adds.