Why HELOCs Are A Popular Loan Option

What exactly is a HELOC?

HELOC stands for Home Equity Line of Credit. It’s a line of credit, offered by a bank, with the borrowers’ property equity as collateral for the loan. The equity is the difference between the market value of the property and the amount still owed on mortgages or other encumbrances.

For example, if you owe $ 70,000 on your house and the market value is $ 250,000, your equity value is $ 180,000. On the basis of this equity the lender is normally willing to offer a HELOC that the borrower can draw against for five to ten years, with a repayment period of up to twenty-five years.

Should HELOC be thought of as a type of credit card or a loan?

A HELOC is basically a hybrid between a credit card and a second. Like a credit card, the lender allows you to spend up to a certain limit (i.e., the amount of the equity) and you only have to pay according to the amount of credit used. Each time credit is taken up, the amount of credit available declines, but increases with payments. That said, a HELOC is secured debt whereas a credit card isn’t.

The pledging of real estate as security makes a HELOC similar to a second mortgage, but there is a key difference. When a second mortgage is obtained, the lender gives the borrower the entire loan amount in a lump sum, but with a HELOC the loan is taken out on an installment basis according to the borrower’s needs.

What are the advantages of a HELOC compared to other kinds of loans?

The advantage of a HELOC is that they are suitable for infrequent but major expenses for a household. For instance, financing a home addition, or paying for college expenses or maybe a wedding for their kids. With current, and also low prime interest rates, HELOCs can be cost effective financing. Also, borrowers may additionally qualify for tax deductions on HELOC repayments.

Some borrowers can use a HELOC for debt consolidation. You might find it significantly cheaper to pay interest on the HELOC in lieu of paying several lenders their interest charges, administrative costs, and late payment penalties.

Disadvantages of taking out a HELOC

The attractiveness of taking out a HELOC in certain circumstances needs to be balanced against the risks. If the interest rate on the HELOC is variable, borrowers should be very aware that the rate can fluctuate to their disadvantage. Furthermore, if they fail to make repayments, they may ultimately lose their homes.

If you decide to use a HELOC to consolidate debts, remember that it is common for banks to charge closing fees for paying off their loans and this expense should be taken into account when calculating your expected savings. Some HELOCs liability for any deficiency stays even after the bank has foreclosed on a secured home. Another risk is that banks have the right to terminate an unused credit line if a decline in property value reduces the borrower’s equity.