Based on my experience (see story at the end), I believe the following
is true (but I could be wrong in your specific situation):

1. The interest rates rising is a big issue. In eight years, the prime
rate could be quite high. You should factor this in.

2. I believe if you use the credit card while you carry a balance, you
will have to pay interest on the new charges also even if you pay
the new charges off in full.

3. In terms of taxes, you should be able to deduct interest paid on a
loan up to the amount of $100,000 if that loan doesn't qualify as a
home acquisition debt.

4. Your credit score will drop like a rock initially and will in
general be bad (it will be reported as a revolving line of credit
and the scoring programs will generally see it as you maxing out a
very large credit card). This can become a bad catch-22 situation
if you ever want to get to a fixed rate loan.

Our story: We bought our house zero down (with two mortgages). After
the price of the house shot up so we had 20% equity, we refinanced
replacing both loans with a HELOC for a year, which saved us a lot of
interest. We then refinanced the HELOC for a fixed rate loan (with a
much lower rate than what we started off with).

--Ram

Hello,

My wife and I are considering refinancing our home with a rare type of
loan that looks quite interesting. This loan is called a "First Trust
Deed, Home Equity Line of Credit" (FTDHELOC). Our current loan is a
traditional 15 year mortgage at 4.875%, with 13 years left on it.

The FTDHELOC is a very common type of home loan instrument in
Australia, New Zealand, and South Africa, but it seems to be quite
rare here in the U.S. (HELOC's as seconds are common, however.)

How it works is that the home is refinanced with a HELOC as the first
(and only) home loan, typically up to 80% of the appraised value of
the home. The loan is simple interest payback, so that requires strong
financial discipline to pay down the principle. Since we are
financially disciplined, and budget our monthly house payment, that's
not an issue for us. This type of loan gives us greater cash flow
capability to make it through rough times (which we hope never come),
and makes it easier to facilitate quicker principle paydown by
leveraging the 30-45 day credit card float which we'd use to pay all
our budgeted expenses. (Our paychecks are deposited into the HELOC,
reducing the loan principle and thus the monthly interest, then we pay
all bills and household expenses using VISA, then pay off the VISA *in
full* from the HELOC 30-45 days later. The net effect is to drop the
average principle of the HELOC by the amount of our monthly income,
which has the effect of reducing interest thus meaning more of our
budgeted home loan payment will go towards principle and less towards
interest. We figure that with this program we'll reduce the time to
payoff from the current 13 years to about 8 years using the same house
loan payment, assuming interest rates don't rise too much -- the
FTDHELOC has a variable rate, reassessed yearly based on prime, and
can never rise more than 5 points above the value when the loan was
started, and no more than 1% rise per year.)

I have two questions regarding this type of loan:

1) Are there some hidden "gotchas" with this type of loan? (besides
the need to be extremely financially disciplined, which as I noted
above we are.)

2) What is the deductibility (Schedule A) of the interest we pay on
this loan?

Regarding the tax deductibility, the lender has told us one thing (as
I will describe below) which appears to be different from what the IRS
says in its publication on home mortgage interest deduction, and what
has been mentioned on various newsgroups by tax experts. But then this
whole issue is very confusing, and I'm not sure if even CPAs even
fully agree on the formula.

What the lender has told us is that the interest on the loan principle
up to the *original* home value when first bought is fully deductible,
and any interest paid above that amount is not.

For example, let's say we bought our house at $162,000, the home is
now appraised at $250,000, and our FTDHELOC is at $195,000, which
becomes our first and only home loan. The simple interest rate is 5%
(which is variable, tied to the prime rate with a cap, a downside to
the FTDHELOC program.) The lender's advice is that the interest on the
loan principle up to $162,000 is fully deductible, while any interest
paid for principle above that amount cannot be deducted.

Anyway, using this same example (I'll supply more information if that
is needed), what interest can we deduct from this loan? (The IRS
publication, and the prior discussion on Usenet, is quite confusing
on this matter -- some advice seems to apply that for the example
above only a small amount of the interest will be deductible.) Please
post your reply to this newsgroup.

Thanks!

Mark