Loan Tip: 6 Reasons to Avoid LOC Products – In Most Cases

I don’t like Line of Credit (LOC) products! Here is why



a) Generally, they are at call
Unlike a term loan, a loan with a 30 or 25 year term, the Line of Credit (LOC) product is often at call. A lender could cancel the facility and ask you to repay the loan within 28 days.



b) Often higher interest rates
The interest rate on the LOC is usually at a much higher rate than the IO investment loan.



c) Adverse Effect on Servicing
Borrowing capacity will take a hit with these as they are often assessed more harshly. At least one bank treats them as if they were 20 year PI loans for serviceability purposes.



d) No Offset Account Attached
Although not a big deal, but these loans cannot have offset accounts attached to them.



e) Can Result in Terrible Loan Contamination
Where money is put into and out of a loan the portion of the loan relating to the original use diminishes with each deposit. If you started off with a LOC on the main residence as the main loan, and put all the income in and then withdrew enough to pay the credit card each month then after 5 to 10 years you might still have a large debt but none of the debt relating to the original use of borrowing to acquire the home.

As a result, if you moved out and rented the place you would have little to nothing to claim in terms of interest on the loan – but would have a large debt still.



f) Some terms loans can be used as if they were a LOC
The LOC without it being a LOC. Some loan products allow you to pay into the loan and directly out of the loan as well, just like it was a LOC. The surrogate LOC.

 

Am I understanding you correctly that a loan like point f is a better alternative that takes away the disadvantages of points a through e?

 

Yes - generallly.