Using home equity to pay off credit cards, medical bills, and other debts is common. However, a financial strategy called velocity banking has gained attention in recent years. This method involves using a HELOC to aggressively pay down debt, including a mortgage. Some people claim to have paid off their 30-year mortgage in less than seven years using this approach.
So can this method help you pay off your mortgage faster? While it might not be suitable for everyone, it could be a game-changer for some. This guide explains how velocity banking works and who it might benefit.
What Is Velocity Banking and Why Should I Consider It?
Velocity banking is a financial approach aimed at accelerating mortgage payoff. The idea is to direct all income into the HELOC and use it to pay bills, while also making extra payments on a mortgage. This approach aims to accelerate mortgage payoff by increasing the amount of money allocated to it. It essentially creates a cycle that can lead to significant interest savings and faster debt reduction. This method relies on having home equity and a steady income. It's a financial strategy that can produce impressive results when executed correctly.
How Velocity Banking Works in Practice
To illustrate how velocity banking works in theory, let's consider a simple example. Imagine you have a $100,000 mortgage at a 5% annual interest rate. You earn $4,000 per month and spend $3,000 on various expenses, including your mortgage payment. This leaves you with $1,000 in discretionary income each month.
To implement velocity banking, you open a Home Equity Line of Credit (HELOC) with a $25,000 limit based on your home's value. Here's how the process unfolds:
First, you use a portion of the HELOC to make a lump sum payment on your mortgage. For instance, you might transfer $12,000, leaving your mortgage balance at $88,000 and your HELOC balance at $12,000. You then deposit your entire $4,000 paycheck into the HELOC, reducing its balance to $8,000.
Over the month, you use your credit card for expenses. At month's end, you draw $3,000 from the HELOC to pay the credit card and mortgage. This leaves a HELOC balance of roughly $11,000 plus interest.
The following month, you repeat the process: deposit your paycheck into the HELOC, then use it for expenses and mortgage payments. This is called "paycheck parking." Gradually, the HELOC balance decreases by about $1,000 per month, minus interest.
After nine months, you can make another lump sum payment of $12,000 from the HELOC to your mortgage. Your mortgage is now $74,442, and your HELOC is at $15,154. In total, you've reduced your combined debt by 10.40% in nine months.
By consistently applying this velocity banking approach, you can eliminate both the mortgage and HELOC in approximately six years and four months.
If you had simply made an extra $1,000 mortgage payment each month without using velocity banking, it would take six years and five months to pay off the entire mortgage.
Therefore, velocity banking offers a one-month advantage and saves around $1,458 in interest in this example.
The Financial Impact
As mentioned earlier, making a large initial payment significantly reduces your mortgage balance. This means less of your regular payment goes toward interest and more towards paying off the principal.
By making a big upfront payment, you’ll save on interest that would have built up over time.
This strategy of using a HELOC to make larger mortgage payments can dramatically shorten your mortgage term. However, this depends on the specific numbers and your ability to manage your finances.
Closing Thoughts
Velocity banking can be an effective way to pay off your mortgage faster, but it’s not suitable for everyone. This method requires careful planning, a stable income, and a good understanding of your finances. It's important to weigh the pros and cons and consider talking to a financial advisor to see if velocity banking is right for you. While it can offer benefits, make sure it fits within your overall financial strategy.
Author Bio
Donnell Stidhum, Private Pension Plan Consultant and Owner of Self Directed Retirement Plans LLC. Retirement strategist creating properly structured self directed plans providing unrestricted investment control for use in both traditional and non-traditional investments.
