What Is Velocity Banking?
The velocity banking strategy focuses on using a HELOC or “Home Equity Line of Credit.” It can be done with a personal life of credit as well, but in general, a readvanced HELOC is the most common method. By depositing your income into a HELOC, you are essentially cancelling interest on the periods of a month in which your money would typically be sitting collecting dust. We refer to this as an interest cancellation effect. The lender only charges you interest on an average daily balance. If your income compresses the line of credit during the lull periods of the month and sitting stagnant, you can cancel some of the interest that would otherwise accrue each day.
You can also practice the conceptual aspects of velocity banking and the habits that can make this method successful without a HELOC or personal credit line. When it comes down to it, velocity banking is all about developing the proper habits to get out of debt.
So, is velocity banking some sort of magical cure-all for paying off a mortgage in five to seven years? Unfortunately, it's not– but realistically, there is no magic way to pay off or eliminate debt other than paying that debt down. That means you still have to apply money to the principal balance you owe. No magical new money is created. Instead, your focus and attention are directed to your goal. Many will likely experience a domino effect by simplifying the process as they begin to see steady results.
The truth is that the velocity banking strategy fundamentally rests on the actions and financial behaviour of the person implementing it. Like most financial strategies and debt reduction methods, velocity banking will either work beautifully or simply fail, and the result is entirely based on the user. If you cannot follow through on your financial plan and operate with the right mindset, you will probably not receive the success you want with velocity banking. It's just like getting a gym membership– the gym membership itself won't help you lose weight, but your actions while owning that gym membership will. Saying that you do velocity banking will not eliminate your debt. The only way to truly get out of debt is to put in the work, but velocity banking can help certain families.
This strategy works by using a line of credit as your main account. After consistently depositing money from your pay periods and other random incomes (child tax benefit, bonuses from work, selling furniture, or tax refunds), your free cash flow reduces the balance quickly. Then strategically (without putting yourself into hot water), you can pay lump sums to pay off other debts such as credit cards and vehicle loans. Using the snowball method, those payments that used to go out every month now still sit in the HELOC, compressing it down. This compressed balance quickly grows so you can attack the big kahuna next, the mortgage. The idea here is that a line of credit will assist you in using your cash flow to cover your expenses while also going toward paying off your mortgage. There is no need for a savings account with this approach since your cash flow will go toward your debt via the line of credit or HELOC. Instead of saving on the side, you are in effect saving more due to the interest being cancelled out. For many, this is much more than any savings account with a typical bank will pay you anyhow. Typically, this approach makes it possible to pay off your mortgage faster, and the end result should be less interest paid.
A word of caution… If you get rid of the traditional mortgage portion with a fixed principal and interest payment, you have not eliminated your mortgage yet. If you have a HELOC, then you technically still have a mortgage. This is often overlooked and poorly explained by the many financial entertainers who promote this strategy. A HELOC is a pledged debt instrument against the property's title and is still considered a mortgage. Until the HELOC balance is at zero, you are not mortgage-free. With all of your cash flow freed up and no more traditional payment, the rest of the HELOC is often cleared away in record time.
Bonus for Infinite Bankers who incorporate this idea. Rather than using a HELOC, they can use the power of policy loans to rapidly recapture debt into a re-advanceable credit line using their cash value as collateral and have total control over the process.