An Introduction To What Is A HELOC

Many borrowers want to know, what is a HELOC. A HELOC, or home equity line of credit, is a revolving account, with flexible borrowing and repayment options, based on the equity available in a home. Many people use HELOCs to finance major purchases, such as college tuition, home improvements, medical bills, buying a business, or purchasing an investment property. Typically, lenders will make available up to eighty-five percent of a property's assessed value, minus the amount owed on the mortgage.

Equity lines are more flexible than home equity loans. With home equity loans, money is given as a lump sum, monthly payments are fixed, and the loan must be paid off over a predetermined time period. With an equity line, money may be withdrawn as it is needed, monthly payments are flexible, and the repayment period is negotiable. Home equity loans are good for specific, one-time purchases, while equity lines are better for money needed over an ongoing span of time.

HELOCs have many advantages. Upfront costs are low, and interest rates are lower than credit card rates. Homeowners may borrow only the amount of money that they need, and, at the end of the draw period, may be able to convert the HELOC to a fixed-rate loan.

HELOCs do have some disadvantages. With a credit line, borrowers put up their home as collateral, in case the loan is not paid off. Also, lenders may adjust the size of the credit line, if the property drops in value. Additionally, the adjustable rate of a home equity credit line is very sensitive to market changes, and the interest rate, unlike an adjustable-rate mortgage, has no adjustment cap.

With equity lines, interest is calculated daily. The APR is interest only, and does not reflect any points or up-front costs. The rates for equity lines are tied to the prime rate, so that, when the prime rate changes, the HELOC rate adjusts on the first day of the month, following the change in the prime rate. The interest rate that a bank charges will vary according to the borrower's credit score, and the mortgage debt to property value ratio.

Borrowers should ask about fees and margin. While third-party fees are often small, and paid by the lender, other fees, such as annual fees and cancellation fees, will be the responsibility of the borrower. Borrowers should also ask about margin, which is the amount added to the prime interest rate, to determine the credit line interest rate.

Households should establish guidelines for their credit line. Before establishing the credit line, households should decide who may withdraw money from the credit line, what the money should be used for, and how the money will be paid back. Borrowers should never take out money from their HELOC, to cover monthly payments for their home.

Low interest rates, and tax-deductible interest, still make equity lines an attractive borrowing option. However, equity lines are harder to obtain than they used to be, since twenty-three percent of homeowners carry an underwater mortgage. Homeowners who are still wondering what is a HELOC may have more luck if they consult a small lender, as opposed to a large bank.