A home equity line of credit, or HELOC, is a financial product that allows you to tap into your home equity. You can use the money to fund home repairs, pay for large expenses, or whatever else you like. However, you need to make monthly payments to the lender in order to repay the loan over time.
For homeowners who have a solid credit history and plenty of home equity, a HELOC may be an affordable and convenient way to access a line of credit. But it’s not the right solution for everyone. Below, we explain how a HELOC works and how to know if it’s right for you.
What is a HELOC?
This type of loan is a revolving line of credit which uses your home as collateral. You get approved for a maximum loan amount and can draw on the line of credit as often as needed for a period of time. That time is known as the “draw period” and usually lasts around 10 years. After the draw period you enter the “repayment period” when you must pay off the amount you have borrowed.
The amount of credit you can qualify for will depend on several factors, including how much equity you have in your home, your credit score, your income, your debt-to-income ratio, etc. Most lenders require that your home equity is equal to greater than 20% of the home’s value.
While you may get a lower interest rate on a HELOC compared to an unsecured account like a credit card, it doesn’t mean the interest can’t add up quickly. HELOCs typically have variable rates, meaning that your interest rate can go up or down over time.
What is the Process to Get a HELOC?
Applying for a HELOC is a fairly straightforward process. First, you’ll need to fill out an application form with a lender. The application will usually ask for your personal information, property information, employment or income information, and the types of debt or financial obligations you have. All of this is used to help determine your eligibility for a loan.
You’ll also be required to get a home appraisal to determine the current value of your property. The lender needs to know the current value so they can decide how much to lend you.
Depending on your situation – such as whether you’re self-employed or live in a certain area – you may be asked to provide additional documentation. This could include proof of insurance, two years of tax returns, and documentation of bankruptcies or child support payments.
If your application is approved, the lender will then schedule a time to close the loan and complete any necessary documents. This is the time to review all contracts and understand what your obligations are before signing on the dotted line.
How Can I Access Funds?
After signing the loan, you have three business days to change your mind. This period is called the “right of rescission.” After these three days pass, you can access your HELOC funds.
Your lender can arrange to have funds from the HELOC deposited into your bank account once the right of rescission period has passed.
Also, depending on your lender, there may be multiple ways to access funds. You may be able to get money by writing a check, calling the lender, or accessing your account online. Note that some lenders may have minimum or maximum withdrawal requirements.
What Am I Responsible For as a Borrower?
Before taking out a HELOC, read the fine print and make sure you understand what it is that you’re getting into. Since this is a variable loan, minimum payments can change from month to month. Borrowers may also need to pay other fees on top of upfront closing costs. These can include an annual membership or a transaction fee, which is charged each time you borrow money.
You should also know that minimum payments during the draw period may be lower than the repayment period. That’s because you may be paying interest only during the draw period while your payments during the repayment period may include the full amount.
Some lenders may also ask you to make an additional payment of the principal loan amount at the end of the loan, also known as a balloon payment. It’s important to understand what your responsibilities are and what the terms of the agreement are, because otherwise you could be at risk of losing your home.
Understand What You’re Getting Into
Whether it’s for home improvements or to pay for your child’s college education, taking a HELOC can be a convenient way to tap into existing home equity. However, this is a big responsibility that requires a strict commitment to repayment.
Before deciding to use a HELOC, consider your entire financial situation as well as alternatives like the Unison HomeOwner program which has no monthly payments and no interest charges.