Having a home equity line of credit is a terrific backup to an emergency fund, but not a replacement for one. The purpose of having an emergency fund is simple; to pay for an expense when normal savings or current income is not enough to pay for a financial emergency.
Equity in a home should be thought of in a different light. When people use their home as an ATM, the results could be tragic if caution is not exercised. Here are some reasons.
1. Your home is more than a financial asset
A home is a large financial asset, but it also provides the most basic human need of shelter. When you access your equity in your home, you are potentially jeopardizing your shelter if things get out of control financially. If you are unable to pay a credit card company, there are consequences, but none as severe as not being able to pay your home equity line of credit. If you find yourself unable to pay your home equity line of credit, your home is vulnerable to foreclosure.
2. Variable interest rates.
The rate of interest on a home equity line of credit is variable, which means the interest rate will go up and down. In a rising interest rate environment, your minimum payment could rise substantially, putting you at risk of defaulting on your loan if you are unable to make the minimum payments.
3. Debt is bad for building wealth.
One of the keys to building wealth is to have as little debt as possible. When you carry debt, you have to pay interest and make payments to satisfy the debt. If you do not have debt, that same money could be used to build wealth.
I do believe having a home equity line of credit does make sense to backup an emergency fund because it is the second line of defense should an unforeseen disaster make an appearance. However, your first line of defense should always be an emergency fund.