Home Equity Line of Credit

What exactly is a home equity line of credit?

A home equity line of credit is very similar to a home equity loan but is set up as a maximum amount that you can withdraw, rather than a fixed dollar amount loan. You can withdraw the maximum you are allowed, or just withdraw smaller amounts as you need them. (See more information on home equity loans here.)

Typically you can borrow up to 85% of the appraised value of your home minus what you still owe on your home. So for example, if your home is appraised at $100,000 and you still owe $25,000 on your home, you can qualify for a home equity line of credit of up to $60,000. (85% of the $100,000 = $85,000 - $25,000 you still owe = $60,000)

So, using the example above, your home equity line of credit (often called HELOC) limit would be $60,000. You can draw on this line of credit by writing a check or using a special credit card. You draw and pay interest on only what you need.

HELOCs are fairly easy to obtain provided you are credit worthy and have equity in your home. Often, you are able to get low interest rates and other perks for using a home equity line of credit. Try using our free home equity loan calculator to estimate your qualification for this type of financing.

Homeowners are using a HELOC to borrow from the equity in their homes for a variety of reasons:

  • taking a summer vacation
  • financing home improvement projects
  • paying off other debt such as high interest credit cards
  • medical emergencies
  • buying a car.

You can use a line of credit in the same way you would use a credit card. The major difference is that you usually receive a higher spending limit. The cost of this higher spending limit is the reduced equity in your home.

Most HELOCs are Second Mortgages.

HELOCs have a draw period, during which you can use the line of credit, and a repayment period. Draw periods are usually 5 to 10 years. During that time you may only be required to pay interest.

Repayment periods are usually 10 to 20 years. Over that time you must make payments on the principal equal to the balance at the end of the draw period divided by the number of months in the repayment period. Some HELOCs, however, require that the entire balance be repaid at the end of the draw period, so you must refinance at that point.

Because the balance of a HELOC may change from day to day, depending on draws and repayments, interest on a HELOC is calculated daily rather than monthly.

There are also disadvantages to a home equity line of credit. More here....  1 gold arrow

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