Home Equity Line of Credit (HELOC)
A home equity line of credit, or HELOC, allows homeowners to use their home’s equity to borrow money – often for major items, such as education, home improvements, or medical bills. With a home equity line, you will be approved for a specific amount of credit, using your equity as the collateral. Many lenders set the credit limit on a home equity line by taking a percentage of the home’s appraised value and subtracting from that the balance owed on the existing mortgage.
Is this right for you?
When considering a HELOC, it is important to understand some of its features and requirements to determine whether this type of financing is right for you.
- Equity Requirements: Because the underlying collateral of a home equity line of credit is the home itself, failure to repay the loan or meet loan requirements may result in foreclosure. As a result, lenders generally require that the borrower maintain a certain level of equity in the home as a condition of providing a home equity line. Most banks require at least 20% equity in their homes. This will sometimes vary by lender and could be as low as 15%, but banks generally will not loan more than 80 percent of the available equity.
- Flexibility: Many prospective borrowers find HELOCs appealing because of its flexibility. You have access to available funds now and in the future to pay for home improvements, education expenses, and other recurring needs without reapplying. You can choose from a variety of term options, and you only need to pay when you actually tap the line. One other added benefit is that the interest on your home equity financing may be tax deductible.
- Variable Interest Rates and Fluctuation: Although HELOCs come with a large degree of flexibility, they also come at a cost. HELOC interest rates can fluctuate like credit card interest rates. This is generally based on an index, such as the prime rate, and means that the interest rate can change over time. According to HSH.com, unlike credit cards, any increases must be tied to the index and in accordance with your loan documents. No arbitrary rate increases are allowed; however, the changes can nonetheless be steep, and your payment also fluctuates with the balance.
A home equity line of credit can be a great financing option for many borrowers, but – as with any loan product – you need to speak to a mortgage professional to make sure it fits your financial needs. Aft