Best Mortgage Rates
A home equity line of credit (HELOC) is a revolving account that lets you borrow against your home equity. The repayment terms are open, allowing you to repay up to 100% of the loan in a lump sum payment. The monthly payments consist of interest only, and the interest rate varies with the prime rate.
People choose HELOCs for three primary reasons:
- Because they want a cheap source of readily available cash, should they need if for renovations, investing, education, emergencies or personal use.
- Because they want an interest-only payment (the lowest payment you can get).
- Because they want a mortgage with no penalty if they make big prepayments, sell their home or change lenders.
HELOCs have a few disadvantages, however:
- Your interest costs can soar if rates rocket higher.
- The revolving nature of a HELOC makes it very easy to get into debt and stay in debt if you are not financially disciplined.
- Making just interest-only payments can keep you indebted for many years beyond a traditional mortgage.
- HELOCs are harder to get approved for if you have above-average debt ratios. That’s because most lenders require variable-rate borrowers to prove they can afford payments at the posted 5-year fixed rate—in case rates soar. Lenders are also more careful about who they approve for HELOCs.
Here are a few more tidbits about this particular term:
- 22% of borrowers get HELOCs (source: CAAMP).
- The average HELOC is approved for $135,000, as of 2014 (source: CAAMP).
- 9% of HELOC borrowers max them out, but that includes people who use them as mortgage substitutes (source: CAAMP).
- HELOCs require a minimum of 20% equity.
- Most lenders limit the revolving portion of a HELOC to 65% of a property’s value. On top of this, qualified borrowers can add another 15% of the property’s value in the form of an amortizing mortgage.
- A few lenders pay your legal and appraisal fees when you switch into a HELOC, but most don’t. Most HELOCs are collateral charges, which means you usually have to pay legal or appraisal fees to change lenders.
- HELOCs can have two types of payments, depending on the lender:
- Floating payments: This is where your payments increase and decrease based on a benchmark of some sort (most commonly prime rate).
- Fixed payments: This is where the lender keeps your payment the same for the entire term. If prime rate goes up, you pay more interest and less principal, and vice versa. In most cases, your payment must at least cover the interest due—or the lender will raise the payment.
Here is a graph of prime rate, upon which HELOCs are based…