by Damon Carr, For New Pittsburgh Courier
I recently shared an article on Facebook about “Infinite Banking.” The article was called, “If you’re a proponent of Infinite Banking, you’re infinitely gullible.” I was asked, was “Velocity Banking” the same as Infinite Banking? I had never heard of Velocity Banking. I think I’m going to have to start paying attention to the TikTok and YouTube financial gurus. It appears that I can create a lot of content simply debunking what these influencers are making popular on social media.
What is Velocity Banking? Velocity Banking is a concept that prides itself on paying off your 30-year mortgage in under 7 years. That’s a concept certainly worthy of attention. I’m a proponent of paying the mortgage off early. In fact, I advise people to retire their mortgage before they retire from work. How Velocity Banking goes about paying off the mortgage in record time is where I see the problem.
You take out a HELOC. HELOC stands for Home Equity Line of Credit. You convert this HELOC to your all-purpose checking account. All of your major bill payments will come from this HELOC account. To streamline everything, you pay all your expenses with your credit card. By utilizing your credit card to pay for expenses, you’re effectively floating your expenses at zero percent because if you pay your credit card off in full every month, there’s no interest. You take your entire paycheck and apply it towards your HELOC. No need to have a savings account. After all, it’s not paying you much in interest anyway. Instead, you funnel your entire paycheck to your HELOC. In the event of an emergency, you can use your HELOC.
Here’s how it plays out: All of your expenses were paid with your credit card. Your entire paycheck was directed to your HELOC. You use your HELOC to pay off the credit card balance in full. You also take a lump sum of say $10,000 from your HELOC and apply it towards your mortgage. Making these lump-sum payments is what will accelerate you paying off your mortgage early. A key component to this working is you have to have positive cash flow or margin between your income and your expenses. As the theory goes, by directing your entire paycheck to your HELOC, you’ll quickly pay down the HELOC balance so that you can repeat another large lump-sum payment to your mortgage. I’ll share a direct example from one of the videos I watched called, “How Velocity Banking Works…”
“For this example, pretend that you have a mortgage of $100,000 at a 5 percent Annual Percentage Rate (APR). You also have an income of $4,000 a month and you spend $3,000 on miscellaneous expenses including your mortgage payment each month. This leaves you with $1,000 a month of discretionary cash flow.
You decide to use the velocity banking strategy, and you open a HELOC with a credit limit of $25,000 at 5 percent APR.
First, you make a lump sum payment from the HELOC to your mortgage. You could transfer up to $25,000, but it is wise to keep a “reserve,” and maybe you only draw $12,000 on the HELOC to start. Your mortgage balance is now $88,000 with your HELOC balance at $12,000. You take your monthly income of $4,000 and make a payment on the HELOC so the HELOC balance goes down to $8,000.
Over the course of the month, you put your living expenses on a credit card, and at the end of the month, you draw $3,000 on the HELOC to pay off the credit card and also to make your monthly mortgage payment. Your HELOC balance is now about $11,000.
Next month, you put your paycheck toward the HELOC at the beginning of the month and then pay monthly living expenses and the mortgage payment from the HELOC at the end of the month. This is commonly called “paycheck parking.” Continuing this process, the balance on your HELOC is reduced by about $1,000, minus interest on the HELOC each month.
After 9 months, your HELOC balance is down to about $4,000, so you can make another lump-sum payment of $12,000 from the HELOC to your mortgage. Now the mortgage balance is $74,442 with the HELOC at $15,154 and the total at $89,596.
You’ve now paid off 10.40 percent of your total mortgage and HELOC in nine months. Continue this velocity banking process and you will pay off your entire mortgage and HELOC combo in six years and four months.”
Damon here: That’s a vexing, complex theory filled with a host of positive assumptions. The theory only emphasizes the upside potential. EVERYTHING has to go perfect in order for this concept to work. I’m going to expose you to the volatility of this theory or the downside risk.
A HELOC is two L’s and one K short of what it’ll lock you into — HELL! A HELOC is a supersized credit card that is a lien against your house. It’s a mortgage! Sure, the interest rates are lower on a HELOC than on a credit card. But the interest rate is never lower or equal to the interest rate on a mortgage as suggested in the example used in the video. The rate on a HELOC is a floating rate that adjusts up or down — usually UP depending on prevailing market interest rates. The interest rate on a HELOC is generally the prime rate plus a margin. As of the day I wrote this article, the average interest rate on a fixed rate mortgage was hovering around 5 percent. Whereas the average interest rate on a floating rate HELOC subject to change is hovering around 9 percent. Who with common sense would accelerate payments on a lower, fixed-rate mortgage by utilizing money from a higher, adjustable rate mortgage (HELOC)? In my Keith Sweat voice, NOBODDDDY!
This Velocity Banking concept is BAD to the core. It goes against the concept of sound money management. You don’t need a savings account? Pay all your expenses with a credit card? Use a HELOC in lieu of a checking account? Borrow money from a HELOC to accelerate paying off a mortgage? You have to be high on marijuana to think this stuff up! You have to be high on crack to believe it!
By utilizing a HELOC as the pivot point to manage your cash flow, it exaggerates and inflates your income. It’s a self-inflicted ponzi scheme. At some point, you’ll reach the limit, the lender will freeze your line of credit, or in year 10, you’ll be forced to amortize and repay the HELOC in 10 years at a higher than market interest rate with a monthly payment that will shock you.
Velocity Banking is a volcano banking waiting to erupt havoc on your personal finances.
Simple, easy to understand, practical solution for the sober mind! If you want to retire your mortgage early, make extra payments on your mortgage. Velocity in motion!
(Damon Carr, Money Coach can be reached at 412-216-1013 or visit his website at www.damonmoneycoach.com.)
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