[00:00:00] Speaker A: In this episode, we cover a popular social media concept called velocity banking and ask ourselves whether it's really possible to pay off a 30 year mortgage in less than ten years. Let's get started.
[00:00:11] Speaker B: Let's get some money from new money new problems. It's the new Money New Problems podcast, a show for successful professionals searching for the tools they need to navigate financial opportunities and obstacles they've never seen.
Negotiating compensation. Purchasing your first investment property. Helping your family with money. The highs and lows of entrepreneurship. New money brings new problems that require new solutions. Join us as we work through them together.
I'm Brenton Harrison, and this is the New Money New Problems podcast.
[00:00:49] Speaker A: Hello. My name is Brenton Harrison of New Money new problems and your host for the New Money New Problems podcast. I am back from out of town in the speaking engagement and in my home setup. And if you were with us two weeks ago, I gave a major preview or a teaser to this week's episode when I talked about the fact there was this social media concept called velocity banking that proclaims that if you do this according to its instructions, you can pay off a 30 year home loan in twelve years. Ten years, some people say seven to ten years. And it's something that's been taking off over recent years. When it comes to something that you might see on TikTok or something that you see on YouTube, there are people who devote their entire careers to building a profile off of teaching the velocity banking concept. And it's something that, when you see it, it kind of sounds too good to be true. So in this episode, I want to talk about the concept in the first half of the episode, show you how it can work when done properly and when certain circumstances align in your favor. But in the second half of this episode, we'll tell you how likely it may be and also some of the cons that you need to be aware of. Because I would tell you that this is never something that I would recommend without you working with a licensed professional, and probably more than just one. In addition to a financial advisor, I'd recommend you having a CPA, you being in communication with your lenders to have an idea of things like your tax impact, the interest rates, all types of things that you need to be aware of when it comes to a complicated concept like velocity banking. So let's jump into how it works. And then, as I shared, in the second half, we'll talk about whether or not it's something you should pursue. The first step in velocity banking has to do with something that we also did an entire episode on, and that is securing a home equity line of credit. And you'll recall that in that episode, you can't secure a home equity line of credit unless you have a property that has equity in it in the first place. So if you're looking on screen, you're seeing an example of a home that's worth $500,000. And we're currently assuming that the mortgage payment on that, uh, mortgage as is is about $2,400 a month. Now the mortgage on that property is $300,000 at 6% interest. So you're looking at about $200,000 worth of equity that they've established in this property. And if you go back to that episode, you'll know that most lenders will take 80% of your home's value, in this case $400,000. They'll subtract the balance of the mortgage, in this case $300,000. And what you have left is what's accessible to you in a home equity line of credit. So on this half a million dollar home and $300,000 mortgage, we have a home equity line of credit where we have access to up to $100,000. If you don't borrow any money, you don't owe anything on the line of credit, but you have access to up, uh, to that amount. So once we've established this home equity line of credit, the next step in velocity banking is to determine an amount from that home equity line of credit that you're going to use to pay down that mortgage. So you're not necessarily taking extra money from your own pocket and paying it down. You are borrowing from another source of debt to pay down the original source of debt, which already carries its own risks and complications. But in this step, in our example, we're going to assume that our homeowner taps that $100,000 line of credit for $50,000, and they use that $50,000 to pay down the mortgage balance from 300,000 to 250,000. Now if you're looking at this, you're probably saying, why would a person do this? Because they still owe $300,000. In total, they have just shifted how they owe it from $300,000 on the mortgage to 250 on the mortgage and 50 on the line of credit. What's worse, the mortgage is likely a fixed interest rate mortgage where that 6% is never going to change, whereas the home equity line of credit is a variable interest rate debt. So they might have it at 8% interest now, but if interest rates increase. Maybe it rises to 9%, 10%. Eleven. There's no limit in most cases as to how high the interest rate on a home equity line of credit can go. So why would they do this? Well, there are two reasons why they would do this, and the first has to do with what it does to the mortgage payment itself. For example, if you're looking on screen, you're looking at a $400,000 mortgage for 30 years at 6% interest. And if we started that in May of 2024, not only would the monthly payment be $2,400 a month, but you would pay $463,000 just in interest on this loan. And over the course of the 30 years that you have that home, that that $400,000 mortgage would take over $860,000 to repay in full. If you look at the mortgage amortization schedule, you can see why that is the case. In the first month in June of 2024, you pay your $2,400, but only about dollar 400 of that amount goes to actually pay down the principal. And the other $2,000 is just interest that's occurring on that debt. So in the first month, you started at $400,000, and at the end of that period, you still owe $399. Next month, in July, you can see that you make that same payment, but a slightly larger amount goes towards the principal. Whereas the month before it was $398 that went towards the principal. In July, it's $400.19. That goes towards the principal in August is dollar 402. In September is dollar 404. If you go down a couple of years to when you've owned that property for a decade, what started as about $400 a month that was going towards the principal has now grown to about $700 a month. And the reason for that is you're making the same payment each and every month. But because the balance that you owe is smaller, more and more of that monthly payment goes towards the principal, and less and less goes towards the interest because it's accruing interest on a smaller balance than it was the month before. So when you think about why a person would take money from a home equity line of credit and use it to pay off a mortgage, they're doing it because essentially what they're doing is speeding up the amortization process of this mortgage, and they're putting themselves in a position where they're making the same payment. The mortgage payment never changes in velocity banking, but because the balance of the mortgage is lower, more is going to the principal in the example we're covering in this episode, we took a $300,000 mortgage and we paid it down to 250,000. You can see, based on our amortization schedule, that around the time this loan was at $300,000 remaining, there was about $888 of that monthly payment that was going towards the principal. If we then took that home equity line of credit and paid it down to 250,000, what you would see is that that lower balance, instead of about $900 a month, there's $1,140 that's going to pay off the principal. And if you look at the years in terms of how many years did I shave off, it's as if you magically shaved five years off of the repayment schedule, because that's how long it would have taken based on this amortization table, to get to the point where you owe $250,000. So we've covered why you would do step one. Paying down the mortgage balance allows you to continue making the same payment, but have more go to pay down the principal month after month, and it will simply pick up speed. But what about the amount that we took from the home equity line of credit to pay it off? Well, that's covered in the next step in velocity banking, which is to switch your direct deposit, your monthly paycheck, so that instead of going into a checking account, it goes directly onto a home equity line of credit. What many people don't realize is similar to a checking and a savings account, which have an account and routing number. A home equity line of credit also has an account and routing number. And in many cases, you can switch your direct deposit account from a checking account to a home equity line of credit. Now, uh, there are some employers who may not allow you to do that. And in those cases, you can still have the strategy work by as soon as the money hits your checking account, just transferring it all to the home equity line of credit. But the premise is that everything that you make needs to first go to that home equity line of credit. And instead of spending out of your checking account, you would choose to spend off of your home equity line of credit. You have a checkbook that comes with a home equity line of credit. So if you go to the grocery store, you would use the checkbook. When you're paying for your utilities, you would use the checkbook, all these different types of things that you currently pay on a debit card, you would instead pay with a line of credit. And you're probably thinking, as I would be thinking, nobody takes checks anymore nobody writes checks anymore, and that's perfectly fine. If you don't want to do that, I wouldn't want to do it either. So another way to do the velocity banking strategy is to simply put as many of your monthly expenses on a credit card as you can. And at the end of the month, instead of using the money in your checking account to pay off that credit card bill, you can transfer money from your home equity line of credit to your checking account and then pay off your credit card bill. So there's all different ways to make sure that you do this, but the premise is that you need to be living off of that home equity line of credit. The reason that you would do this with velocity banking is the goal is to make sure that you're living off of less than what you're making. Because if you live off less than what you're making, you're having huge chunks hitting that home equity line of credit each month. And while you have to add back onto it to make sure you cover your monthly expenses, because those expenses are less than your income, you still see significant reductions in your total balance. In the example you see on screen, we have a person who has $50,000 on a line of credit, and in month one, they have $5,000, their entire paycheck deposited on to that home equity line of credit. So their balance goes from 50 to 45,000, and then they have to spend for their monthly expenses. So they have $4,000 of monthly expenses, that brings the balance from 45,000 back up to 49,000. And there's interest that accrues on this home equity line of credit. In our example, we assume that it's $333 a month. So that brings the balance up to $49,333 from what was originally a $50,000 balance. But if you combine the fact that you did see that HELOC decrease by a total of almost $700, with the fact that the mortgage balance also went down by over $1,100 in this one month, you saw your total balance of debt on that property be reduced to by almost $2,000, $1,807. Now, we know based on the amortization table, we just covered that. Eventually, more and more of, uh, your payment goes to the principal. But even if it didn't, even if things stayed just where they were, in terms of how much goes to pay down that balance each month, that would mean that instead of having to pay this off in 30 years, you would pay off this property in a little less than 14 years. I think it's like 13.8 years. And when you factor in the fact that every single month, more and more goes to the principal, it would technically be paid off even faster than that. And that's why it's called velocity banking. Because with each payment that you make, more and more goes to the principal, which means that it picks up velocity. But it's something that requires discipline, an understanding of the risks, and also an understanding of just your own financial situation as compared to what you see online. So after the break, we're going to talk about some factors in your life that you should use to figure out whether this is something that you should look into or if you should keep a healthy distance and go on about your way.
[00:12:13] Speaker C: This is the new Money New Problems podcast, a show for successful professionals searching for the tools they need to navigate financial opportunities and obstacles they've never seen. We'll be right back.
[00:12:31] Speaker B: Are you wondering what new money problems you might be overlooking in your financial life? If so, we've got great news.
Weve crafted the new money new problems gap finder to identify potential weaknesses in your finances in areas ranging from budgeting, investments, insurance, and even the threat your extended familys finances could pose to your household. Please head to newmoneynewproblems.com gapfinder to complete it today. Again, thats newmoneynewproblems.com gapfinder to take the assessment.
[00:13:10] Speaker C: You'Re listening to the new Money New Problems podcast. Subscribe
[email protected]. Welcome back.
[00:13:21] Speaker A: Alright, uh, let's talk about some of the cons of the velocity banking strategy, because the pros are apparent, right? It doesn't seem like you are having to make much of a commitment to this. It's not like you're having to say, oh, I'm going to have to find a way to find an additional thousand dollars in my budget, or $2,000 in my budget and just make extra mortgage payments. You seem to just be living your life as is and somehow paying off a 30 year mortgage in seven to ten years. And if everything works perfectly, that's something that could happen and it would be a really cool concept. But the first thing you need to understand about the dangers of this strategy is you are using debt to pay off debt. And that always has its risks. You may not know those risks or how they're going to manifest when you start the strategy, but it's something that you need to be aware of. The most apparent risk when you're using a home equity line of credit to pay off other debt is that it's variable interest rate debt. So as I shared in the first half, if that interest rate goes from 8% to 10%, the amount of interest accruing on what you borrowed has gone up. And that is why it's actually really important that you not just spend less than what you earn when it comes to what's being deposited onto that line of credit versus what's being added back on in terms of monthly expenses. But there actually needs to be a good bit of a buffer, right? So the strategy only works if there's less being added on a monthly basis than is being deposited. And the problem is that if you start out this strategy and there's already like a razor thin edge, maybe you're depositing $5,000 a month and you're spending $4,800 a month. Well, you're just a couple interest rate increases away or a couple added expenses to your budget from not just not having a margin, but being in the red when it comes to actually not seeing that balance decrease, but increasing instead. So if you were even considering the velocity banking strategy, you would need to make sure that you have a decent grasp on your budget in the first place, which many people do not have, and know that there's enough wiggle room there. That's why in our example, we have 5000 that's being deposited, but only $4,000 that's being added on. Well, that means that this person has a 20% buffer and they were probably already a decent saver before they had this strategy in place in the first place. This is not something to do if you already can't figure out how to avoid seeing your credit card balance balloon by a couple thousand dollars a month and you have no money in savings. This is something that, like many things in finances, really works best when you're already kind of in a good financial situation. It's not something to do as ah, like a last ditch effort when you already are struggling with the basic foundations of your financial plan. The other thing that's pretty obvious about velocity banking is you have to have equity in your home. And while there may be people who bought their home before the pandemic, or during the pandemic, when rates are in the twos and they've still seen the balance of that home value increase over time, maybe they can do it. But not everybody has the requisite margin or equity when it comes to the difference between their loan to value and their mortgage balance. To have a home equity line of credit of any significance. So instead of the $100,000 available in our example, maybe you have a home equity line of credit for $25,000, and you could just continuously take that line of credit, pay down the mortgage, pay down the line of credit, then use it again, since it's been replenished, to pay down the mortgage. But that's something that requires a lot of intent, and that's something I think people who cover velocity banking don't cover in full. The fact that it's a strategy that you have to actively manage it is not just, oh, uh, set yourself up, put the money on the line of credit, and go live your life. You have to be paying attention to the interest rate, you have to be paying attention to the balance of your mortgage, because you want to make sure that you're not over leveraged, and also that you have an idea of how long you have access to this line of credit. And that brings to mind another risk. Whereas your mortgage is a 30 year debt, a home equity line of credit typically expires in ten years. At the end of that ten years, if you have not paid off the balance, you have to either pay off that remaining balance in a lump sum, your lender, to extend the home equity line of credit, which they're not required to do, or you have to be in a position where you can refinance that balance into your existing loan at a higher interest rate than what's on your current underlying mortgage. So if you're enacting this strategy and not keeping an eye on the clock, you could run into a situation where you still haven't paid off that home. But you get to the end of your HELOC period with nowhere to run, and you've greatly increased the amount of interest that's now accruing on that property on a month to month basis and making it even harder to repay than before. So, all in all, the strategy can work if you have a financial professional on your team, if you have a good relationship with your lender, if you're handy with a calculator, maybe this is something you could pursue. If you don't have all of those things, if you don't have your budget in order, if you don't have a good gap between your expenses and what you're depositing on the home equity line of credit, if you're not comfortable managing this strategy on a month to month basis and tracking the timeline to make sure it's paid off before the end of that period, then it is something that you should avoid with a ten foot pole. But I hope this is at least information that starts to break down the barriers and solve some of the riddles that you see online when it comes to these social media concepts. These are episodes that we love to do. So if you see things that you are confused about online, then there's probably somebody else who's confused about it as well. So send us an email, submit a request. This is something that we were sent by one of the people on our email list, and because they were interested in it, we're interested in it, and we want to make sure that we bring you this information as well. I'll see you next week.
[00:18:45] Speaker B: From new money, new problems this was the new Money, new Problems podcast, a show for successful professionals searching for the tools they need to navigate financial opportunities.
[00:18:55] Speaker A: And obstacles they've never seen.
