What is Home Equity Line of Credit?
A home equity line of credit or HELOC is a loan in which the lender agrees to lend a maximum amount within a term where the collateral is the borrower’s equity in their house. Homeowners use a home equity line of credit for major expenses such as medical bills, education, and home improvements.
A home equity line of credit gives the homeowner access to about 85% of their home’s value, less the balance remaining on their mortgage and adjusted based on their creditworthiness and ability to pay. HELOC loans offer high limits with low-interest rates.
How does it work?
The limit will be set by subtracting the balance the borrower owes on their first mortgage by a percentage of the appraised value of the home. A borrower purchases a home for $500,000 and now owes $300,000. If the lender uses a standard 80% guideline, the borrower will receive a credit line of $100,000.
The loan works similarly to a credit card because the lender allows the borrower to draw from the funds whenever they choose so it may be tempting to use the loan to pay for a vacation or a new car but that would be ill-advised. The loan is best used for home improvement and upgrades in order to increase the value on the home.
Next, the loan enters the draw period which is a span of about five to ten years, during which the borrower can withdraw money whenever they choose. When no money is withdrawn, the borrower is not charged. When money is withdrawn (usually with a special credit card or checkbook), the borrower will receive a monthly bill and they must make a minimum payment.
What’s the difference between a home equity loan and HELOC?
A home equity loan provides the borrower with a lump-sum withdrawal while a HELOC gives the borrower the flexibility of tapping into their home’s value in just the amounts they need.
When is the best time to get a HELOC?
- Your income should be stable. If you can’t pay the monthly payments, you may no longer be able to make withdraws.
- You can afford the upfront costs. There are fees involved with taking out a HELOC such as an application fee, title search, appraisal, and attorney’s fees. If you can’t afford the costs, then you shouldn’t apply.
- You have important expenses. Again, a HELOC isn’t for day-to-day purchases. They’re best used on making your home more valuable or if you have important financial needs.
What are the pros of a HELOC?
- Lower interest rates than most credit cards and personal loans. HELOCs are secured by property which means that lenders are able to offer substantially lower interest rates.
- High credit limits. If your home has a lot of equity, you will likely receive a high limit on your HELOC.
- Tax-deductable interest. A HELOC is considered a home loan which means the loan’s interest rates are tax deductible in most states.
- Flexible repayment. Many HELOC lenders offer flexible repayment options.
- Low fees. Most borrowers are able to take out a HELOC without paying much (if any) money upfront.
- Revolving credit line. Again, take cash out when you need it and if no money is withdrawn, you pay no interest.
A HELOC can be a helpful loan if it’s used for the right reasons. Contact the specialists at HML Investments today for more information about home equity loans.