The most interesting debt story in this country right now just might be seniors getting themselves into trouble with home equity lines of credit.
Pay attention if you plan to tap into your home equity in retirement. HELOCs are an easy way to do it, but things can apparently go wrong.
The credit-monitoring firm Equifax Canada reported this week that consumer delinquencies – people falling behind on payments to mortgages, loans, credit lines and credit cards – increased modestly in the final three months of last year to 0.474 per cent from 0.465 per cent in the same period of 2017.
By this standard, the year-over-year 7.2-per-cent rise in the delinquency rate for seniors for non-mortgage debt is an eye-opener. Among the other five demographic groups tracked by Equifax, the comparable delinquency rate was down a bit, flat or up no more than 0.4 per cent.
Lines of credit can be singled out as a cause of the delinquency trend for seniors because they account for 55 per cent of non-mortgage debt held by this cohort, compared with 35 per cent for those under the age of 55.
For the most part, seniors are handling debt better than the rest of the population. The average non-mortgage debt for seniors in the fourth quarter was $16,192 for seniors, compared with $23,520 over all. These average debt levels grew by 2.9 per cent for seniors, a tick less than the overall 3-per-cent growth rate.
But the pace of delinquency growth for seniors seems to justify the concerns expressed about HELOCs recently by the Financial Consumer Agency of Canada, a federal agency, and the credit-rating service DBRS Ltd. Both are worried that people have more HELOC than they can handle.
The rise in interest rates since mid-2017 explains part of the rise in senior delinquencies. Seniors mainly borrow via credit lines, which are particularly vulnerable to rising rates.
When the Bank of Canada changes its benchmark overnight rate, banks immediately adjust their prime lending rate. A higher prime rate means increased costs for HELOCs, which are priced at prime plus a markup of roughly 0.5 to one percentage point. HELOC rates can be in the 4.5 per cent to 5 per cent range today, which isn’t that cheap.
HELOCs have their uses for all age groups, typically as short-term financing for a home renovation. Interest rates on HELOCs are low compared with loans and unsecured credit lines, and they offer the option of making interest-only payments every month. You can carry the principal indefinitely.
For retirees, HELOCs have appeal as a way to tap into the home equity they’ve built up over the years. There are a few alternatives, mainly a reverse mortgage and downsizing to a much cheaper home or city. But a HELOC is by far the least disruptive and easiest to access, especially for people who have had one of these credit lines for ages and are comfortable using it.
But the rising delinquency numbers raise the possibility that HELOCs are ill-suited to seniors who are not financially secure. People in the work force, if they’re fortunate, get promotions, raises and bonuses that can help them cope with rising interest rates. Seniors on a fixed income can only cut other expenses so far to adjust to higher minimum HELOC payments each month. The rising delinquency rate suggests a growing number of seniors are hitting the wall.
Last year’s 26-per-cent growth in the dollar value of reverse mortgages tells us some seniors recognize the drawbacks of HELOCs and want alternatives. A reverse mortgage lets you borrow against your home equity and make no repayments of principal or interest until you sell. The downside is that your debt accumulates in the background at an interest rate that is higher than on traditional mortgages. When you do finally sell, your reverse mortgage debt can substantially reduce your proceeds.
Tip for seniors who do use HELOCs: Keep your balance below $50,000. Equifax said this level of debt seems to be a tipping point for delinquency problems.
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Rob Carrick