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​Introduction to Using a HELOC for Mortgage Payoff

Many homeowners are familiar with the concept of using a Home Equity Line of Credit (HELOC) to pay down their mortgage faster, but understanding how and why this strategy works can be confusing. In this blog, we'll break down the process, explain the benefits, and provide a clear visual example to help you grasp this concept.

How HELOC Interest is Calculated

The key to understanding the HELOC strategy lies in how interest is calculated. Unlike traditional mortgages, which typically calculate interest monthly, HELOCs calculate interest on a daily basis. This means that any change in the daily balance directly affects the amount of interest paid.

Let's consider a scenario with a $10,000 balance on a HELOC at a 6% interest rate. The daily interest is calculated as follows:

Daily Interest Calculation:
$10,000 x 6% / 365 = $1.64 per day
Visualizing the Impact of Payments
To illustrate the impact of payments, let's use a calendar.

Starting Balance: $10,000
Interest Rate: 6%
Daily Interest: $1.64 per day
Example Scenario: Making a Principal Payment
Suppose on the 15th day of the month, you make a $1,000 principal payment towards the HELOC. This reduces the balance to $9,000 and subsequently lowers the daily interest to $1.47.

New Balance: $9,000
New Daily Interest: $1.47 per day
By the end of the month, the total interest paid would be significantly reduced compared to not making the principal payment.

Example Scenario: Using Your Entire Income
Now, let’s consider a more aggressive approach. On the first day of the month, you deposit your entire monthly income, say $5,000, into the HELOC. This reduces the balance to $5,000, lowering the daily interest to $0.82.

New Balance: $5,000
New Daily Interest: $0.82 per day
Throughout the month, you use a credit card for daily expenses and then withdraw $4,000 from the HELOC towards the end of the month to pay off the credit card balance. This approach keeps the daily interest low for the majority of the month.

Balance After Withdrawal: $9,000
Daily Interest After Withdrawal: $1.47 per day
By strategically managing the balance, you can reduce the total interest paid over the month.

Why This Strategy Works

The primary reason this strategy works is that it leverages the daily interest calculation of the HELOC. By making frequent payments and keeping the balance low, you minimize the amount of interest accrued. This is more effective than making a one-time payment towards your mortgage principal.

Addressing Common Concerns

Some people argue that the ending balance remains the same, questioning the benefits of using a HELOC. However, the key advantage lies in the daily interest savings, which accumulate over time and result in significant overall savings.

Conclusion

Using a HELOC to pay off your mortgage faster is a powerful strategy that relies on the daily interest calculation to save money. By strategically managing your HELOC balance and making frequent payments, you can reduce the total interest paid and shorten your mortgage term. For personalized advice and detailed projections, consider using our free calculator and explore more videos on our YouTube channel. 
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