Home equity lines of credits (HELOCs) are useful tools, however, whether or not Canadians are using them sagaciously is another matter.

“It’s not the HELOC itself that causes the problem, it’s the way people use them and don’t properly account for the repayment provisions,” said Calum Ross, a leverage wealth expert and VERICO broker with Mortgage Management Group. “It charges interest only and has no naturally imputed principal pay down, which is fine for people using HELOCs as a leverage wealth product like buying a positive cash flow piece of real estate or positive dividend stock. But the way the vast majority of people are using it, which is living a lifestyle beyond their means, it has a massive repayment problem and a significant flow risk.”

Repaying a HELOC also becomes trickier in a rising interest rate environment. While that 1% isn’t a big deal with a 10% interest rate, says Ross, that isn’t the case when it’s 3%.

“One percent itself does not seem material, but when the general level of interest rate is 3% and it goes up by 1% that is a 25% increase in the payment and still does not properly account for principal pay down,” he said. “A home equity product is, generally speaking, a wonderful way to make your lender rich. It’s only a financially sound decision when borrowing for the short term or paying it back very quickly. If you’re going to leave money outstanding for long time, you’d be better suited to a home equity line of credit where you convert it to below a prime variable mortgage or fixed-rate mortgage, thereby ensuring you get a lower rate, as well as repayment on your principal.”

Daniel Johanis, a Rock Capital Investments mortgage broker, largely sees borrowers using HELOCs to purchase additional properties. However, like Ross, he says borrowers are often neglect repayment.

“The challenges and risks are if they’re only paying down a minimum on HELOCs, it increases their debt load,” said Johanis. “It’s fine for a market where we’ve got accelerated appreciation, but if it stabilizes or flatlines, flipping a house will be a challenge. I’ve known clients to use them for renovations, but if the equity isn’t there when they sell that property to pay it off, that presents a challenge.”

Home equity lines of credit are also used to consolidate debt, however, Johanis wonders if that’s really what’s happening.

“If you’re paying minimum payments, again, you’re not paying down debt,” he said. “That cash flow is used for other things than reducing your debt load. A better strategy on debt consolidation would be a refinance because then you have interest and principal payments rolled into one.”

Should things go sideways in the market, it might be wise to put limits on HELOCs. While most home equity borrowers are middle- and top-income earners who have sufficient liquidity on other household assets to be able to repay the debt, Ross is concerned for borrowers who do not have meaningful assets outside of their principal residence or real estate portfolio.

“For many years, borrowing on real estate, particularly for real estate investors,’ required people to have net worth or an equity component in other assets,” he said. “Why we ever got away from that method, I don’t understand. It’s very clear that, as a result of the real estate appreciation in major metropolitan areas, a lot of consumers are overweighted in real estate and have no meaningful retirement savings.”