How HELOC’s Use the Equity In Your Home

Are you looking for a convenient way to get a hold of some extra cash? Other than second mortgages and home equity loans, home equity lines of credit offer a new approach to borrowing money. A home equity line of credit loan, also known as a HELOC, allows homeowners to use their home as collateral to gain access to an open line of credit similar to that of a credit card. HELOCs offer borrowers a variety of attractive features compared to traditional loans but are very risky due to the fact that their home is used to secure the loan.

Home Equity Line Based On Current & Past Credit Score

Lenders generally determine the credit limit on a borrower’s home equity line based on their current credit score and past credit history. Lenders then calculate their credit limit by giving borrowers access to a specific percentage of the appraised value of their home less the amount of money still unpaid on the mortgage loan. Let’s say that the home is currently valued at $150,000 and the lender allows you to access a 70% credit limit on the appraised value of your home. If the homeowner still owes $50,000 on their mortgage, then here’s how you would compute the potential amount of your home equity line credit.

Current value of home $150,000
Credit lime percentage x 70%
% of current value $105,000
Amount owed on mortgage $50,000
Amount of credit $55.000

Adjustable vs Fixed Interests Rates

A home equity line of credit loan benefits borrowers with relatively low interest rates. If a borrower has a home equity line of credit with an adjustable interest rate, the rate may remain low at first but may then start to climb as time goes on, causing an increase in your monthly payments.

Borrowers that prefer stable borrowing patterns may be better off with a fixed interest rate that offers unchanging mortgage rates and payments on a monthly basis. Be sure to clarify with your lender whether or not your credit plan allows you to change from an adjustable rate to a fixed rate, or vice versa, during the loan period to ensure you have the option of switching to a lower rate if necessary.

Periodic & Lifetime Cap

Other key factors that dictate the amount by which your home equity line of credit rate can change are known as a periodic cap and a lifetime cap. The periodic cap specifies the maximum and minimum amount that your rate can change over a specific period of time, and the lifetime cap specifies the amount by which your rate can change throughout the entire life of the credit loan. Be sure to ask your lender about any caps that may exist in the HELOC agreement. You should be make sure the maximum and minimum interest rate limitations placed on your line of credit are reasonable before agreeing to the terms of the contract.

Annual Percentage Rate aka APR

Another important feature to look into before applying is the home equity line of credit annual percentage rate, or APR, on the loan. Comparing interest rates from one loan to another does not reflect a true comparison of all the costs involved with the home loan. APR measures the real cost of borrowing by taking into account all upfront costs, continuous costs, and closing costs that add to the overall expense of the loan. However, unlike other types of consumer credit, lenders of home equity lines of credit do not account for these fees and costs when advertising APR on the loan. This advertising tactic tends to trap a lot of borrowers who presume that the lender has included all additional costs into the advertised annual percentage rate. When applying for a home equity line, be sure to ask your lender to clarify all other costs that may arise at the beginning, throughout the life, and at then end of the loan period to make sure you are financially able to make ends meet.

The Truth In Lending Act

As a borrower, you should be aware of major consumer protection laws that exist to ensure borrowers are treated ethically and fairly when applying for a home equity line of credit loan and throughout the life of the loan. The Truth in Lending Act, a federal law, states that lenders must inform borrowers of all costs, terms, and conditions associated with the loan at the time of application. Lenders are prohibited from withholding information from borrowers regarding any additional fees, including upfront costs, continuous costs, and closing costs. The law also requires lenders to inform borrowers of any conditions that may change during the life of the loan, with the exception of a variable interest rate characteristic of the loan that may change according to market conditions and not by choice of the lender.

Ask Many Questions

When applying for a home equity line of credit, be sure to ask as many questions as possible to understand all terms and conditions of the loan. After a borrower has applied for a home equity line of credit loan and paid the upfront costs, he or she has three days to withdraw from the agreement and get refunded for the fees paid to the lender. Borrowers need to be certain that they will be able to keep up with monthly payments and other expectations of the credit line.