A Home Equity Line of Credit (HELOC) is a flexible borrowing option that allows homeowners to use the equity in their homes as collateral to access funds as needed. Taking out a HELOC requires a lender to run a hard inquiry—this can temporarily decrease your credit score by a few points.
Assuming a borrower who has spent up to their HELOC credit limit, the monthly payment on a $50,000 HELOC at today's rates would be about $372 for an interest-only payment, or $448 for a principle-and-interest payment.
On the downside, HELOCs have variable interest rates, so your repayments will increase if rates rise. Another risk: A HELOC uses your home as collateral, so if you don't repay what you borrow, the lender could foreclose on it.
Your debt-to-income (DTI) ratio is the percentage of your monthly income that is committed to paying off debt. That includes debts such as credit cards, auto loans, student loans, mortgages, home equity loans, and home equity lines of credit (HELOCs).
But if you use a HELOC to pay for discretionary items or everyday needs, because you can't afford them on your salary or with savings, it's bad debt.
There isn't a set income requirement for a HELOC or home equity loan, but you do need to earn enough to meet the DTI ratio requirement for the amount of money you're hoping to tap. You'll also need to prove that you have income consistently coming in.
Using a HELOC to fund a vacation, buy a car, pay off credit card debt, pay for college, or invest in real estate is not a good idea.
HELOCs in particular can be a trap. “Many homeowners find it difficult to stay disciplined in paying down the principal on their line of credit,” Bellas says. During the initial draw period, “most HELOCs only require you to pay down the interest every month, similar to how a credit card has a minimum payment.
A home equity line of credit or HELOC is another type of second mortgage loan. Like a home equity loan, it's secured by the property, but there are some differences in how the two work. A HELOC is a line of credit that you can draw against as needed for a set period of time, typically up to 10 years.
HELOC payment examples
For example, payments on a $100,000 HELOC with a 6% annual percentage rate (APR) may cost around $500 a month during a 10-year draw period when only interest payments are required. That jumps to approximately $1,110 a month when the 10-year repayment period begins.
You can pay off your HELOC early, but be mindful of pre-payment fees, if any. If you have a Citizens HELOC, you're in luck as Citizens does not charge pre-payment fees. HELOCs allow you to make interest-only payments during the draw period, then transition to principal and interest payments during the repayment period.
As you draw from the account, a HELOC affects your debt-to-income (DTI) ratio. However, if you haven't tapped into your HELOC and the balance is $0, your HELOC will not likely affect your DTI ratio.
Yes. This is the case for home equity related financial products such as fixed rate home equity loans, home equity lines of credit (HELOCs), and cash out refinances. Lenders require an appraisal for home equity loans to protect themselves from the risk of default.
For example, if you're remodeling and need to transfer $20,000 from your home equity line of credit (in one institution) to your bank account (in a different institution), you can write a check to yourself to transfer the money.
Consider a HELOC if you are confident you can keep up with the loan payments. If you fall behind or can't repay the loan on schedule, you could lose your home.
Current economic climate. Though HELOCs allow for low, interest-only payments during the draw period, that's not always a good thing, especially if you withdraw large amounts of cash. In this case, you could find yourself facing a significant jump in payments once you enter the repayment period.
Key Takeaways
A home equity loan allows you to use the equity that you've built in your home as collateral to borrow a lump sum of cash. The loan is secured by the property in the form of a lien, meaning that the lender has permission to foreclose on your home if you fail to keep up with repayments.
Borrowers with credit scores below 680 may have a more difficult time qualifying for a HELOC. It's important to note that lenders also consider a borrower's credit history in addition to their score. A history of late payments or negative credit events can make it harder for borrowers to qualify for a HELOC.
Typically, HELOCs will have lower interest rates and greater payment flexibility, but if you need all the money at once, a home equity loan is better.
A credit score that falls below 580 is generally considered bad credit. Most lenders require a credit score of at least 620 to qualify for a HELOC. With that, it's difficult to qualify for this type of loan with bad credit.
A No Doc HELOC (Home Equity Line of Credit) is a type of loan that allows homeowners to borrow against the equity in their homes without the need to provide traditional documentation such as employment history, income verification, or tax returns.
The LTV ratio is the loan amount divided by the property's appraised value. For example, if you have a $100,000 mortgage and your home is appraised at $200,000, your LTV ratio would be 50%. Lenders generally approve HELOCs if your LTV ratio is around 80% or less.