Why you should use your home equity to pay for your kids’ college
All over America, families are trying to find the best ways to pay for college. Federal aid is available, but it isn’t nearly enough to cover the expenses you‘ll have to pay. According to EducationData.Org, the average cost of college for an undergraduate in the United States is $35,331 per year including tuition, fees, books, supplies, and daily living expenses. Yet, the maximum annual federal student loan limit for an undergraduate is capped at $12,500 (or $57,500 in total). Clearly, the sums don’t add up.
How can you fill the gap once savings, scholarships, grants, and federal student aid options have been exhausted? Many parents are turning to private loans, federal parent PLUS loans, or home equity loans. Indeed, if you’ve built up equity in your home, tapping into it may be your cheapest financing alternative — particularly as the Department of Education recently raised the Parent PLUS loan interest rate from 5.3% to 6.28%.
Up to $10B in home equity used for student debt
Borrowing against your home is never an easy decision because you’ll have to put up your house as collateral, meaning failure to make repayments can lead to repossession by the bank. But an increasing number of parents are doing this to finance college. As reported by EducationData.Org, a staggering $8bn to $10bn of home equity is used for this purpose each year.
The growth of these loans can be attributed to the following factors:
Easy qualification. Since a home equity loan or HELOC is backed by collateral, they’re easier to qualify for and faster to set up.
Cheaper costs. Compared to private student loans and Parent PLUS loans, secured loans often attract lower interest rates and monthly repayments.1
Flexible borrowing. Unlike federal student loans, there are no annual caps — your borrowing limit is instead tied to the value of your home and the amount you’ve paid off.
Keeps retirement plan intact. Taking out a loan against your retirement plan interrupts the growth of your nest egg as you may not be able to contribute to it again until the loan is paid off. Another risk is that if you lose your job, the full amount of the loan becomes due immediately.
According to Bloomberg, the housing boom combined with the low-interest-rate environment play an important role in the growth of home equity drawdown too, with almost one in five American homeowners turning equity into cash in the past year.
Lump sum vs line of credit
There are two ways to borrow against your home equity: a lump sum home equity loan or a home equity line of credit (HELOC).
The first type of loan allows you to borrow a set amount at a fixed interest rate, making it a good option if you know exactly how much you’ll need and prefer the predictability of fixed payments. The interest rate on HELOCs is typically variable, with the rate being tied to a prime rate plus an additional amount, but it’s likely to be lower than the rate of a Parent PLUS loan.
Types of student loan funding
When you consider different ways families can finance college, it’s clear that home equity addresses the significant shortcomings of other alternatives.
Of the two major sources of student loans — federal and private — federal loans are often the first point of call for many. They’re comparatively inexpensive and repayments are not required until after you graduate.
There are four types of federal loans:
Direct subsidized loans. These loans are reserved for students under financial hardship and typically go to families with household income of $50,000 or less. The federal government is responsible for paying interest, set at 3.73%.
Direct unsubsidized loans. Almost anyone can apply for these loans. Interest is also charged at 3.73% but the borrower needs to pay them. With both direct subsidized and unsubsidized loans, there is a cap on how much you can borrow annually. This ranges from $5,500 to $12,500 based on whether you’re a dependent and your year in school.
PLUS loans for parents, graduates, and professional students. Unlike direct loans, PLUS loans have no maximum borrowing limits. However, they carry a higher fixed interest rate of 6.28%.
Direct consolidation loan. Since most students end up taking on multiple loans with different repayment schedules, a direct consolidation loan allows you to bundle them into a single loan. Only federal loans can be consolidated and the interest rate applied is the weighted average of the interest rates on all loans being consolidated.
Private education loans
While federal loans are the most widely used form of financing amongst student borrowers — with 44.4% of all post-secondary students subscribing to them — they’re subjected to complicated rules, borrowing limits, and application deadlines. Many families seek other funding options because they either don’t qualify for federal aid or the support simply isn’t enough.
Private education loans — loans made to students or their parents for the purpose of college education — have experienced phenomenal growth since 2012 and now accounts for 8.4% of outstanding student loan debt. They’re often simpler with none of the federal loan borrowing restrictions. But since they’re much like unsecured personal loans, the student borrower will either need to have very good credit, or a parent co-signer with very good credit, to receive loan approval. Interest rates are likely to be higher than federal loans too.
Given the drawbacks of federal and private education loans, many parents find that tapping home equity is the best way to get the funds you need without paying too much for them.
Using a HELOC from Figure for college
If you’ve built up equity in your home, a HELOC with Figure Lending could provide the flexibility you need to finance college. Figure provides a revolving line of credit you can draw on as needed. Depending on your loan limit, which is determined by the amount of equity you have and other factors such as your credit score, your borrowing needs in the college years could be met by a single facility — without the need to apply for and maintain multiple loans.
While banks commonly charge variable rates on HELOCs, Figure offers fixed-rate loans, meaning the rate that applies to each draw is fixed at the time of the draw and won’t change over time.(3)
Application for a HELOC with Figure can be made securely and 100% online in minutes. Parent homeowners with significant equity and good credit can potentially qualify for a HELOC at a rate far below the 6.28% on federal Parent PLUS loans, so find your rate with Figure today!
1 The Figure Home Equity Line requires you to pledge your home as collateral, and you could lose your home if you fail to repay.
3 The Figure Home Equity Line is an open-end product where the full loan amount (minus the origination fee) will be 100% drawn at the time of origination. The initial amount funded at origination will be based on a fixed rate; however, this product contains an additional draw feature. As the borrower repays the balance on the line, the borrower may make additional draws during the draw period. If the borrower elects to make an additional draw, the interest rate for that draw will be set as of the date of the draw and will be based on an Index, which is the Prime Rate published in the Wall Street Journal for the calendar month preceding the date of the additional draw, plus a fixed margin. Accordingly, the fixed rate for any additional draw may be higher than the fixed rate for the initial draw.
4 Approval may be granted in five minutes but is ultimately subject to verification of income and employment. Five business day funding timeline assumes closing the loan with our remote online notary. Funding timelines may be longer for loans secured by properties located in counties that do not permit recording of e-signatures or that otherwise require an in-person closing. In addition, funding timelines may be longer if we cannot readily verify that your property is in at least average condition with no adverse external factors with a property condition report and need to order a desktop appraisal to confirm the value of your property.