What is a home equity line of credit?
Date: Jan 20, 2023
A home equity line of credit (HELOC) is a loan secured by home equity. This means that HELOCs typically have much lower rates compared to unsecured loans such as credit cards and personal loans.
A HELOC is a second mortgage on your home that allows homeowners to borrow money against the equity they have built up in their home after paying down their mortgage. The homeowner is able to tap this equity for a low interest rate that is variable based on the prime rate. Homeowners can use HELOC funds for a variety of purposes including debt consolidation, home renovation, and large ticket items.
To qualify for a HELOC, you will need to have equity in your home and a good credit score. The amount of equity you have in your home will determine the maximum amount you can borrow against. The interest rate on your HELOC will be lower if you have a higher credit score.
There are some advantages and disadvantages of using a HELOC that you should be aware of before taking one out. Some advantages include the fact that HELOCs offer homeowners a low-interest way to borrow money. They can also be used for a variety of purposes including debt consolidation, home renovation, and large ticket items.
Some disadvantages of using a HELOC include the fact that they are a form of debt and can increase your monthly payments if not used wisely. They also typically have variable interest rates which means your monthly payment could go up or down depending on the prime rate. However, there are HELOCs that allow you to convert the balance to a fixed rate or take a fixed rate draw.
Typically, a homeowner must qualify for a HELOC based on reliable income, good credit, qualifying amount of equity in your home, responsible payment history, and other factors.
The main factors impacting a HELOC are the draw period and repayment period. The first phase, called the draw period, is when your line of credit is open and available for use. During this period, you will be allowed to borrow from your line of credit as needed, making minimum payments or interest-only payments on the amount you have borrowed.
Once you reach the end of your draw period, you will no longer have access to the HELOC funds and will have to start making full monthly payments that cover both the principal and interest. This is the repayment period.
The repayment period can last anywhere from five to 20 years, or even longer in some cases. Some HELOCs have a “balloon payment” at the end of the loan, which is a lump sum payment for the remaining balance that is due.
Other HELOCs will convert to a fixed-rate loan once the draw period ends. This means your interest rate will be locked in and your monthly payments will become fixed, making budgeting for your payments easier.
It’s also important to consider how you will use the funds and whether you will be able to make the monthly payments during the repayment period. HELOCs can be a great tool for homeowners who need to borrow money, but it’s important to understand how they work before taking one out.