Ask 8 key questions when shopping for a home equity line of credit

November 07th, 2011

Home Equity Lines of Credit (HELOCs) allow you to exchange home equity for cash. There are several things to consider when shopping for one.

What makes HELOCs different?

HELOCs are revolving accounts that can be used, repaid and reused, in much the same way that credit cards work. They come with adjustable interest rates, and payments are determined by the loan's balance and current interest rate. You only pay interest on amounts that you actually use, and you may have the option of making interest-only payments for a period of time.

HELOCs have a couple of stages: the drawing period, in which you can tap the funds as often as you like up to the limit on your credit line, and the repayment stage, in which you cannot draw any more money and must make payments.

The 8 components of your HELOC

  1. Rate - Your rate is determined by a financial index like the LIBOR or Treasury, and a margin, which is added to the index. You have no control over the index, but the margin is negotiated between you and the lender. Comparing quotes from several lenders helps you get the lowest margin.
  2. Floors and caps - Floors limit how low your rate can go, even if your index + margin is less. Caps limit how high your rate can go, even if the index + margin is higher.
  3. Draw period - Your draw period can be five years, ten years, or longer. Make sure it meets your needs.
  4. Conversion - Many HELOCs offer the chance to fix your interest rate when the draw period ends. Your new rate is determined by a formula. Compare this as well when shopping for a HELOC.
  5. Loan costs - HELOCs are not usually costly to set up. You can pay a few hundred dollars or you can pay nothing. There may be monthly or annual fees, or not. Compare fees when shopping for a loan.
  6. Early closure fee - Will you be charged a fee for prepaying and closing the loan? This may come up if you sell your home or refinance.
  7. Non--use fee - Will you be charged a fee for not using the loan? This is important if the reason you're setting up the HELOC is for emergency use only.

The amount of time you have to repay the loan is important--if you draw for five years and repay for 15, your payments will be less than if you draw for ten years and repay for ten. An interest only calculator can help you see how much more you must pay monthly to eliminate your balance before your draw period ends, the way a traditional mortgage amortization calculator would. Speak with your mortgage lender for more information about HELOCs.

Posted By :

Dennis is co-owner and broker of record for Stratis Financial in Southern California. With over twenty years experience in the mortgage industry he has helped thousands of homeowners responsibly access their equity through home equity loans and lines of credit to consolidate debt and cut monthly expenses. Dennis has a degree in Economics and Political Studies from Pitzer College and is married with two children.

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