HELOCs - Everything You Need To Know
Home Equity Lines of Credit, or HELOCs, are a loan instrument used to access your home equity.
I want to address what they are and then how to get them.
First, a HELOC does not function like a regular mortgage. It is not an installment loan. But it IS a lien against the title to your house, just like a regular mortgage is. And if you fail to make your payments on time you can lose your house to foreclosure. A HELOC can be charged up and paid off and charged up again just like a credit card. As long as you have equity you should be able to secure a HELOC. BUT not every lender will give you access up to 100% of the value of the house. We’ll talk about who does in a sec.
The rates on HELOCs are typically based on the prime rate and are typically variable. Look into the prime rate to learn about it. But the prime rate is directly tied to the actions of the Federal Reserve and has no limitations to its movement. The Feds typically move their rate in order to facilitate or restrict growth or inflation in the national economy. And they typically telegraph their intentions quite a lot. Normal mortgages are not usually based on the prime rate so this is an important difference.
Another interesting characteristic of HELOCs would be that when securing them, the banks or credit unions don’t typically charge any fees for them. They sometimes charge for the appraisal, but often that’s covered by them. However, when you pay them off, especially through a refinance or sale, you need to sign a form requesting it to be closed. Oftentimes, this comes with a penalty if done within the first few years. I’ve seen penalties as much as $250.
Now, applying for a HELOC can be done at almost any bank or credit union. BUT they definitely are not all the same. The amount that they’ll lend is one of the major differences. Some will lend up to 100% of the value of your home. Most of the big CUs in Utah will do this. But when you go that high percentage wise, the loan amount is often limited. The lower the percentage of your home equity you use, the larger the loan amount that they’re willing to lend, usually. And your FICO score has a major influence on both the amount your borrowing and the rate you’ll get. So a good idea, when shopping for these, is to shop around a lot. Your rate, loan amount, and loan to value ratio (LTV) will all vary based on credit score. Call 5+ banks and credit unions in order to get what you need and get the best deal on it.
Last thing I’ll add, you may want to research an interesting strategy using these HELOCs. Some people will secure a HELOC and then stop using their checking and savings accounts. They’ll connect all their auto pays, direct deposits, etc. to their HELOC. HELOCs work on daily interest so you only pay interest for the balance you have that day. So when you receive your paycheck into your HELOC, the balance drops a lot. Then as you begin paying your bills, the balance rises back to close to where it was. But you saved interest while the balance was lower and growing. Also, most of us need to pay off our debts. We see a balance and we just want to pay it off. So seeing a balance on a HELOC drives us to scrimp and save a little more and spend less so the balance can be reduced. The combination of this and saving interest tends to make this a decent strategy for some. But I’m not a financial planner, so do your own research to find out if it is a good idea for you and your family.