How Will You Fund an Emergency?

How Will You Fund an Emergency? bb3 Nov 26, 2012

By Staff Writer

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If life threw you a curve ball, could you handle the unexpected expense? Many Canadian homeowners might struggle financially if faced with an emergency.

Financial planners often recommend having three to six months’ worth of living expenses parked in an emergency account. However, a recent study by the Canadian Imperial Bank of Commerce (CIBC) revealed that 40 per cent of Canadian adults who hold a mortgage have no emergency savings.

Instead, as many as 34 per cent of homeowners rely on home equity lines of credit (HELOCs) to cover the expense of an emergency, according to the Canadian Association of Accredited Mortgage Professionals.

While there’s no one right solution for every homeowner, keep these things in mind as you weigh the options of a savings account against a HELOC.

Savings Advantages

  • Savings accounts are counted as assets on your balance sheet. With more assets, you might have more borrowing power with a lender to make other purchases.
  • A savings account will earn interest that compounds- albeit at a low rate.
  • Savings accounts offer liquidity: You can withdraw funds immediately if you need to.
  • You are under no obligation to replace money you withdraw from your savings account—though rebuilding a depleted emergency fund should be a priority.

Savings Disadvantages

  • Building a savings account requires discipline and regularity.

HELOC Advantages

  • Depending on your line of credit, you may gain access to a larger amount of money from a HELOC than you would from a savings account.
  • A line of credit requires no deposits and can sit idle until you need the funds.
  • You could choose to use the money you would have deposited into a savings account to pay down your mortgage principal, thereby increasing your home equity.

HELOC Disadvantages

  • If you lose your job, you may lose access to HELOC funds. The bank may consider you a poor risk for paying back the money.
  • A HELOC offers no rate of return.
  • Banks can choose to limit the availability of HELOCs and change rates and term limits at any time. If you don’t already have a HELOC in place when you’re facing an emergency, it may be difficult to get one.
  • Homeowners need at least 20 per cent equity in their homes before they can obtain a HELOC, putting this option out of reach for one in five homeowners.
  • You must pay the interest on any money you take out through the HELOC, but when you pay back the principal is typically up to you (within the terms of your agreement).
  • HELOCS are not counted as assets.
  • For some homeowners, the money available through HELOCs can be tempting and lead to impulse purchases.

If you need assistance with planning this or another aspect of your finances, the Financial Planning Standards Council can help you find a certified financial planner.

Neither State Farm nor its agents provide tax or legal advice. Please consult your own adviser regarding your particular circumstances.