1st Lien HELOCs:
What They Are & How They Work
Updated as of March 27, 2024 | FirstLienHELOC.com
What is a First Lien HELOC?
You may be familiar with a home equity line of credit, or HELOC, as a way to use the equity in your house as cash. People use HELOC’s for all kinds of things, such as home improvements, consolidating debt, or paying for education expenses.
Traditionally, people think of a HELOC as a second loan or lien on their homes, which sits “behind” their first mortgage. A First Lien HELOC is an option to replace your mortgage and also have access to all your equity, not just the amount of a smaller 2nd mortgage HELOC.
Additionally, using the Velocity Banking we can teach you with a First Lien HELOC, people can pay off their home in as little as 5-7 years without changing their lifestyle or need for more income.*
Are you curious yet? Let’s explore how a First Lien HELOC works and some of the ways you can use this type of loan to achieve financial freedom.
Differences: 1st Lien HELOC vs. Mortgage
The traditional mortgage has been the staple home financing tool for generations, so it is only natural to ask how is a 1st Lien HELOC different, and why does it matter?
A 1st Lien HELOC has the following key differentiators:
It allows money to go in and out freely.
It calculates and earns interest on the average daily balance of the period.
It allows for interest only payments (until you reach the end of the loan term)
It is a revolving line of credit
- It may have a balloon payment at the end of the loan term (often 10, 15 or 20 years)
These items matter because they provide tremendous flexibility and value to the modern homeowner. A traditional mortgage is a rather rigid financing obligation, requiring consistent payments toward interest, principal and escrow. A First Lien HELOC can allow homeowners to access capital, consolidate debt, or pay down principal balance quickly. In certain circumstances, you can make interest only payments, which won’t reduce your balance, but allow you to apply your cashflow elsewhere if need be.
In particular, because First Lien HELOC’s most commonly calculate interest based on the previous period’s average daily balance, many are able to exploit the loophole and save large on interest.
Loophole? We’ll get more into that in a bit.
Home Financing 101
Every time you borrow money using your house as collateral, the loan has a lien placed on your property by the bank. A traditional 30-year fixed rate mortgage usually sits in “first” position. This is the loan many people get when they buy or refinance their homes.
A traditional HELOC, or what is commonly called a “Home Equity Loan” usually sits in “second lien” position. First mortgages include a fixed principal and interest payment over the term of the loan. A HELOC is a revolving line of credit secured against the equity in your house.
A First Lien HELOC is a combination of a traditional mortgage and a Home Equity loan in that the loan amount is the full balance that you owe but you have the flexibility to pay down as much as you want and the ability to draw from the equity available at any time during the loan period. You do not have a fixed principal and interest payment, you only owe for the interest cost on the amount you have advanced from your HELOC or line of credit.
You can use a First Lien HELOC to either refinance your existing mortgage or you can use it to purchase your new home. This all in one First Lien HELOC gives you all the benefits of having access to every bit of your equity with just a single loan.
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interest calculation
Cashflow
Escrow
Payment
Mortgage
Previously Monthly Balance
Payment Only
Required
Fixed Monthly
1st Lien HELOC
Average Daily Balance
Advance or Payment
Excluded
Interest Only
-
interest calculation
Cashflow
Escrow
Payment
Mortgage
Previously Monthly Balance
Deposit Only
Required
Fixed Monthly
-
interest calculation
Cashflow
Escrow
Payment
1st Lien HELOC
Average Daily Balance
Withdrawal & Deposit
Excluded
Interest Only
First Lien HELOC vs. A Traditional Mortgage
Depending on your situation, First Lien HELOCs can be a much better solution than a second mortgage, or even a first mortgage. Second Mortgage interest rates tend to run higher than HELOCs. Getting a second mortgage compounds these interest rates so they can run even higher than your first mortgage.
HELOCs and mortgages are largely different home loan options because they don’t offer similar spending flexibility or availability of funds.
Why does interest calculation matter?
The way your loan calculates interest can affect how much interest you pay, just as much as the interest rate or more! By taking advantage of the difference in how HELOCs calculate their interest payments can save you tons of money in overall interest costs.
Traditional mortgages calculate your interest using an amortized interest calculation which uses your previous month’s balance to calculate your next month’s interest payment. This method “conveniently” forces you to pay the highest amount of interest, and it cannot change regardless of what happens with your balance throughout the month.
HELOCs calculate their interest differently. They generally use the average daily balance (and sometimes the average monthly balance) to calculate your interest payments. As its name implies, your interest payment is calculated daily, using that day’s principal balance. So, by decreasing your balance, even at a daily level, your interest payment decreases overall.
This becomes a significant advantage when you route all of your income to pay down your HELOC. Each payment you make reduces your principal balance as much as possible, maximizing your interest savings.
Example: Same Earnings. Different Loan Types.
Lets use an example to compare a mortgage and a 1st Lien HELOC side by side. For our variables, the combined gross income will be the same, the total expenses will be the same, the amount financed will be the same, but we will route the cashflow differently.
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interest rate
monthly income
monthly expenses
amount financed
average loan payment
years to pay off
total interest paid
Mortgage
3.5%
$12,435
$5,788
$422,000
$2295
30
$260,188
1st Lien HELOC
5%
$12,435
$5,788
$422,000
$929
7.5
$85,501
-
interest rate
monthly income
monthly expenses
amount financed
average loan payment
years to pay off
total interest paid
Mortgage
3.5%
$12,435
$5,788
$422,000
$2295
30
$260,188
-
interest rate
monthly income
monthly expenses
amount financed
average loan payment
years to pay off
total interest paid
1st Lien HELOC
5%
$12,435
$5,788
$422,000
$929
7.5
$85,501
When you compare these two sets of numbers, the difference paid in total interest is staggering. Of course, this sort of interest-cost savings requires completely routing all income and expenses through the 1st Lien HELOC. Many ask and are concerned about not setting money aside for saving or investing. To be clear, we aren’t saying not to invest your income. But your HELOC generally replaces the need for emergency funds access, and by contributing all would-be savings to your principal payment, you end up saving much more on interest costs than you would generate on investment costs.
See how much you can save with our new calculator
Other ways to use a First Lien HELOC
Purchase A New Home
If you have enough saved up for a deposit that matches the lenders requirements (usually 10 – 20%), then you’ll be able to purchase a home using a 1st Lien HELOC. You’ll be able to pay down your principal balance faster, but also have the flexibility to take on those new-home projects and upgrades.
Pay Off Your Home Quickly
When using a properly structured First Lien HELOC, this product becomes the Financial Hub for your household and allows you to maximize every dollar of household income. This consolidates all of your financial tools into one, allows you to simplify your life while at the same time, gain wealth by reducing your debt rapidly. This in turn reduces the amount of interest you pay, as you shorten the term of your loan.
Navigate Retirement
When coasting into retirement, it’s generally recommended to manage your expenses and investments. By using a 1st Lien HELOC and keeping the loan paid down but open, you can access additional capital from your home’s equity quickly, and with no additional lending fees. You won’t need to liquify any assets and paying the taxes on them.
Consolidate Debt
If you have loans with higher interest rates, you can easily pay off your other debt and simply your debt structure. A 1st Lien HELOC gives you the capacity to access your accrued capital, and pay a lower overall interest rate on larger volumes than you would be able to get otherwise. This can include school loans, auto loans, emergency loans, and more. Remember, if you use a Maximized Cashflow Strategy and are cashflow positive, then consolidating your debt to your 1st Lien HELOC may allow you to pay even less in interest than your lower interest rate loans. Curious to know more about how that works? Read our article on interest calculation.
Invest In Real Estate
When you’ve accrued enough equity in your 1st Lien HELOC, you may be able to use your equity to purchase another piece of real estate. Keep in mind, 1st Lien HELOCs do not generally meet the same cost restrictions as a mortgage, meaning that you can finance up to 1.5mm without additional typical jumbo-loan restrictions.
If you financed a $800,000 home and used the Maximized Cashflow Strategy, you could quickly accrue enough equity to then purchase lower priced homes in cash. Then by flipping the house into a rental, you can use the additional cashflow to maximize your debt pay down even faster.
Achieve Financial Freedom
Sign up on FirstLienHeloc.com to get connected with a licensed lender who can deliver an all-in-one 1st Lien HELOC. They’ll walk you through the application process and help outline your budget, your numbers, and exactly how much you can save by replacing your mortgage.