- What is a Home Equity Line of Credit or HELOC?
- How Does a HELOC Work?
- HELOC vs Home Equity Loan: What’s the Difference?
- How Can I Use a HELOC?
- How Much Money Can I Borrow With a HELOC?
- How Much Home Equity Do I Have?
This guide as 12 most commonly asked questions answered!
Advertisements and online promotions representing a Home Equity Line of Credit as a one-stop financial solution sometimes leave members wondering if it’s too good to be true. Having reliable information is vital to making a informed decision when searching for the best HELOC for your unique needs. Prior to applying for a Home Equity Line of Credit, knowing what costs to compare, features to look for, and mistakes to avoid will help you make an informed decision. If you are unsure about taking out a Home Equity Line of Credit, the following frequently asked questions, and answers could prove invaluable.
Top 12 Home Equity Line of Credit (HELOC) Questions Answered
- What is a Home Equity Line of Credit or HELOC?
- How Does a Home Equity Line of Credit (HELOC) Work?
- HELOC vs Home Equity Loan: What’s the Difference?
- How Can I Use a HELOC (Home Equity Line of Credit)?
- How Much Money Can I Borrow With a Home Equity Line of Credit?
- How Much Home Equity Do I Have?
- Besides HELOC Rates, What Else Impacts My Total Loan Cost?
- How Does the Prime Rate Affect My Home Equity Line of Credit Rate?
- How Do I Qualify for a Home Equity Line of Credit?
- Does a Home Equity Line of Credit Affect My Credit Score?
- Credit Union vs Bank: Where Should I Apply For My HELOC Loan?
- How Long Does A Home Equity Line of Credit Application Take to Get Approved?
1. What is a Home Equity Line of Credit or HELOC?
A Home Equity Line of Credit, also known as a “HELOC,” provides a low-interest borrowing opportunity for qualified homeowners. The line of credit is typically secured against the difference between a property’s fair market value and what is owed. After an impartial appraisal is established, the outstanding mortgage balance and other encumbrances are deducted. That amount of equity can then be leveraged as collateral. Because a HELOC is backed by collateral, local lenders can offer qualified borrowers increasingly low-interest rates.
It’s also essential to understand that HELOC rates are of the variable variety. That typically means they are tied to the ebb and flow of the prime interest rate. While the Federal Reserve continues to set monetary policy in a fashion that leads to historically low prime rates, a HELOC ranks among the more consumer-friendly borrowing options available. Of course, if The Fed sets a regulatory policy in motion that results in higher prime rates, borrowers could see their monthly payments tick up a tad.
For tips on how a HELOC can help you achieve your goals, review our blog "5 Smart Ways to Use a HELOC."
2. How Does a Home Equity Line of Credit (HELOC) Work?
In many respects, a HELOC functions much like a credit card. Borrowers establish a line of credit limit with a lender, and they can withdraw against the amount during a set period of time. Sometimes called the “draw” period, a Home Equity Line of Credit is structured in a way that allows homeowners to spend as they go, within that timeframe.
Consumers enjoy the flexibility of choosing to pay the principal they’ve withdrawn to keep the Home Equity Line of Credit at its maximum threshold. This strategy sometimes allows homeowners to leverage the same equity more than once before the repayment period begins.
Draw periods vary, but it’s not uncommon for some to last as long as 10 years. And repayment periods can be stretched from 5-20 years. The terms of the HELOC are worked out with local lenders. Once the drawdown period ends, borrowers start making full monthly payments of both interest and principal. This HELOC then starts to mirror many other loan products. But again, a Home Equity Line of Credit involves variable interest rates. That means it could fluctuate up or down, depending on the prime rate at a given time.
Basically, a HELOC is akin to a credit card that allows account holders to make purchases against the borrowing limit. But unlike a credit card, that limit does not necessarily revolve indefinitely. Home Equity Line of Credit borrowers enjoy flexible access to cash only until the draw period ends.
3. HELOC vs Home Equity Loan: What’s the Difference?
While a HELOC functions like a credit card in some ways, a Home Equity Loan follows a more traditional model. Like most loan products, a Home Equity Loan provides qualified borrowers a lump sum upfront. Once the loan has been approved, the funds are dispersed to the borrower, and repayment begins promptly.
Unlike a HELOC, Home Equity Loans do not offer a lengthy drawdown period. Sometimes referred to as a “second mortgage,” these loan options usually involve fixed rates rather than variable ones. This aspect makes them popular among working families who prefer to establish monthly budgets without worrying about an expense ticking up. Like the HELOC, a Home Equity Loan uses the equity in a person’s home as collateral. That security gives financial institutions the ability to offer wonderfully low rates to qualified applicants. The terms and repayment period are established between the borrower and lender.
Depending on the size of the loan, credit history, and other factors, a Home Equity Loan’s repayment periods can range from five to 30 years in some cases. Coupled with static monthly payments and flexible terms, Home Equity Loans often prove beneficial when working families need cash in a different fashion than a HELOC.
For more tips on determining which solution is right for your needs, review our blog "HELOC vs Home Equity Loan: Which is Best?."
4. How Can I Use a HELOC (Home Equity Line of Credit)?
When everyday people take out a car loan, they are tasked with buying an automobile. When people apply for a mortgage, the funds must go to the property’s purchase. But when homeowners use their equity asset, a Home Equity Line of Credit can be used to pay for a wide variety of things.
Making necessary repairs such as a new roof or HVAC system usually buoy property values. And discretionary uses such as upgraded kitchens or expanding bathrooms often improve resale values. This smart use of a HELOC reinvests into a borrower’s home.
The cost of quality health care has skyrocketed in recent years. Many insurance policies have high deductibles and don’t cover every procedure. When property owners or a loved one require surgery, specialized treatment, or long-term care, a Home Equity Line of Credit can ensure your family gets the medical attention they deserve.
Loving families build memories from routine kindness and spending quality time together. Taking a once in a lifetime vacation without worrying about expenses is a dream come true. A HELOC can help fill out the family photo album with nostalgic vacation pictures.
Like so many things, wedding expenses have become onerous. Too many couples are forced to compromise on their special day when they take their vows. Merging savings accounts with a Home Equity Line of Credit often helps devoted couples plan their perfect wedding.
It’s not uncommon for intelligent real estate investors to leverage equity and purchase a second property. This strategy puts equity to work by integrating a profit-driving rental property into a portfolio. Beyond pure business, retirees sometimes use a HELOC to secure a second home and enjoy seasonal weather during their golden years.
The flexible uses of a HELOC sometimes lead people to think of them as a type of high-limit credit card. But it’s essential to do plan where your money will go ahead of time, because when the draw period concludes, borrowers begin repayment and will no longer have access to funds.
5. How Much Money Can I Borrow With a Home Equity Line of Credit?
Property owners sometimes speculate about how much they can get approved for when applying for a Home Equity Line of Credit. The answer to that question rests primarily in how much equity they possess, credit score, and other financial indicators. The conventional wisdom among many lenders stands around 80 percent of the equity in the home. Allegiance Credit Union goes above that by offering up to 90% Maximum Loan to Value based on the applicant's credit and debt-to-income ratio.
The remaining percentage of unused home equity leaves the lender with enough collateral to feel confident someone will not default. The sum also provides enough wiggle room for a lender to recover losses if the mortgage goes unpaid.
6. How Much Home Equity Do I Have?
If you are considering applying for a Home Equity Line of Credit, calculating the amount of equity you possess doesn’t require overly complicated math. Write down the current amount owed on your mortgage and the total of other encumbrances. Take that number and subtract it from the fair market value of your property.
If, say, your total home debt tallies $200,000, and the value is estimated at $400,000, you have established 50 percent equity. That $200,000 in equity could be used to support a Home Equity Line of Credit in the neighborhood of $160,000 if the lender is willing to approve at the 90-percent threshold.
One of the peripheral questions prospective borrowers often ask is whether they need to pay for an appraisal to get approved for a HELOC. The answer depends on whether you want to take advantage of quick-rising real estate prices or base the HELOC application on established value.
For more tips on using your available home equity to remodel, review our blog "Top 3 Ways to Use Your Home Equity to Remodel."
7. Besides HELOC Rates, What Else Impacts My Total Loan Cost?
It’s not unusual for everyday people to get caught up in HELOC rates and forget that other expenses can drive up costs. When shopping for a Home Equity Line of Credit, the following rank among the expenses and fees that sometimes go overlooked.
Some lenders call this an application fee, and the expense has become something of a standard practice. It deters people who are clearly not qualified from overwhelming loan processing professionals.
Title Search Charges:
Lenders must make certain the person receiving the HELOC funds owns the property. That’s why title searches are a necessary part of the approval process.
There are several HELOC-specific expenses borrowers can anticipate. In addition to the Origination Fee and Title Search Charge, be sure to compare the cost for these possible charges as well:
- Loan Processing Fee
- Flood Zone Determination Fee
- Appraisal Fee
- Title Report Fee
- Recording Fees
- Transfer Tax
Be Aware of the Introductory and Promotional Offers Impacting Your HELOC Rates
In addition to fees, be aware of the terms surrounding an introductory or promotional offer tied to your HELOC Rate. Always ask questions and read the fine print to find what your rate will be once that introductory or promotional period ends.
For more factors to consider when rate shopping, review our blog "HELOC Rates Aren't The Only Thing to Watch When Searching for a HELOC."
8. How Does the Prime Rate Affect My Home Equity Line of Credit Rate?
The prime rate has considerable influence over a Home Equity Line of Credit. A HELOC is usually tied to this benchmark figure, which impacts both borrowing power and the real dollars paid in interest. For example, the month-over-month interest repayment typically required during the draw period can fluctuate up or down in sync with the prime rate.
This variable-rate option is also impacted by the prime rate adjustments that trickle down from actions taken by The Federal Reserve. That means borrowers could see their monthly installments shift even after they finish using the line of credit and enter repayment. When considering a HELOC, it’s important to understand the economic factors and how The Fed’s actions could impact your bottom line.
For a deeper dive into the aspects of the prime rate, review our blog "Prime Rate Explained: See How It Impacts HELOC Rates and Your Wallet."
9. How Do I Qualify for a Home Equity Line of Credit?
To qualify for a Home Equity Line of Credit, a lender routinely examines a homeowner’s credit score, debt-to-income ratio, and calculates the property’s equity. It’s not necessarily crucial to post perfect credit metrics. A loan professional generally reviews someone’s financial portfolio in its totality. So, being strong in one area may help compensate for a weakness in another.
That being said, lenders prefer debt-to-income ratios to be no higher than approximately 43 percent. An applicant’s FICO score also carries considerable weight, and the lenders like to see numbers no lower than 620 in many cases. High scores may help expedite the approval process and provide access to low-interest products and more flexible terms. Lastly, the equity someone possesses, and the amount they wish to use as collateral significantly impacts the process. For example, leaving more than 20 percent untouched improves the security of the Home Equity Line of Credit and the lender’s position in the event of default.
Potential borrowers would be well-served to review their credit score, debt-to-income ratio, and estimate the equity in their home. Clear up any credit blemishes and tighten that debt-to-income ratio. With those figures in hand, schedule an appointment with a local lending professional and find out what is available to you. Allegiance Credit Union offers free financial coaching to members. You can learn more here.
10. Does a Home Equity Line of Credit Affect My Credit Score?
Anytime someone applies for a loan, credit card, or line of credit, the inquiry has a minor effect on their credit score. Your score may drop by a few points, but the impact disappears over time. The same holds true after borrowers are approved, and that debt is added into the mix. The fundamental fact is that a HELOC can help or hurt your credit score depending on how you use it. You can help your credit score by making payments on time and you can hurt your credit score by missing or making late payments.
11. Credit Union vs Bank: Where Should I Apply For My HELOC Loan?
A local credit union and big bank may both offer this product, but that’s where the similarities usually end. A bank is a profit-driven corporation that leverages customer money and charges more for loans, accounts, and lines of credit to generate cash for shareholders.
By contrast, a credit union follows a not-for-profit mandate to foster the financial betterment of community members. Because credit unions do not have to siphon off money from members, they are free to pass along savings to the membership. While it may feel daunting to find a lender with the lowest HELOC rate and fees, a basic business model comparison indicates working families are better off with a community credit union.
For more facts on why a credit union is the right lender for you and your budget, review our blog "7 Reasons Why Your HELOC Loan Belongs at a Credit Union vs Bank."
12. How Long Does A Home Equity Line of Credit Application Take to Get Approved?
A wide range of resources indicate that homeowners typically get approved for a Home Equity Line of Credit between 30-45 days on average. But people who work with local lenders often find they can truncate that timetable to as low as 2-3 weeks in some instances. If you have your financial ducks in a row and do not need to hire an appraiser, the process can be greatly streamlined. Allegiance Credit Union can help you close in as little as two weeks.
A Home Equity Line of Credit is a flexible, low-cost solution to help you achieve your goals whether it be to renovate your home, pay for an emergency repair or large purchase, cover planned or unexpected medical costs, and so much more. Applying for a Home Equity Line of Credit is fast and easy! Fill out our online application today and know that Allegiance Credit Union is ready to help you every step of the way.
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