There comes a time in many homeowners’ lives where a cash boost could be of benefit, but it’s not always a simple endeavor to approach lenders, apply for the right loans, or even dip into savings to take care of the necessities. One of the great things about owning property is that it will likely have at least some equity that can be utilized.
Is leveraging home equity a good idea?
It is a common misconception that home equity loans are reserved for making home upgrades; once the money is unlocked, it is up to the owner to distribute funds as they see fit. A home equity line of credit, or HELOC, is a revolving credit line that is secured against the home and can be used for a myriad of things. As these typically have a lower interest rate, they can be a viable way to cover large expenses without taking out more expensive options (such as car financing) or to consolidate debts that have higher interest rates. There are instances where the interest accrued may be tax deductible, but of course, you will need to check the terms and conditions of the loan or consult a tax advisor before moving forward.
How a home equity line of credit works
In its most basic form, a HELOC allows you to borrow against the equity of your home (this will vary from property to property), with it acting as the collateral should you default on your agreement. As the outstanding balance is paid, the available credit will increase, similar to using a credit card. This gives home-owning borrowers flexibility, as you’ll be able to take out as little or as much as you need to a predefined credit limit. The value of this will be determined by the difference between the market value of the property in question and the outstanding balance of the mortgage. In most cases, credit lines have a draw period of 10 years and when this ends, the repayment period will begin (this is typically 20 years, but can vary).
Typically, those with a home equity line of credit will get a monthly bill that states the minimum payment due, the interest rate and the principle. There may be charges that will be equated against the current balance and any interest rate fluctuations, as well as fees in cases where additional principal payments are made.
Who can qualify for a HELOC?
The good news is that anyone with equity in their home will have the potential to take out a home equity line of credit - and many lenders offer as much as up to 80% (minus the amount owed). Lenders will typically look at your credit score and credit history, your monthly income, the health of your employment history and even how long you have had your mortgage for. If all of these factors are satisfactory and the lender is confident in your ability to financially afford the repayments, they will be happy to provide it (those with extremely good credit scores may be able to qualify for more than 80%).
Interest rates and fees
As with many loans or lines of credit, there are two interest rates to keep in mind:
Variable interest rates
It is more common for lenders to offer variable interest rates with a HELOC, which will change monthly depending on the underlying index rate and their own margin. This could mean that you will pay less on some months and more on others.
Fixed interest rates
There may be instances where lenders will set the opportunity to switch from variable to fixed interest rates, but this is not common for home equity lines of credit and will typically only be available for a set amount of the outstanding variable-rate balance. It can be worthwhile to make the most of this if the option does become available, as fixed payments will be stable and predictable and will protect you from events where rising interest rates can leave you further out of pocket.
How to work out the HELOC loan amount you may qualify for
As briefly mentioned above, HELOC loan amount calculations should be made depending on the equity of your home and the outstanding mortgage balance. You can get an estimate of the maximum limit you may be eligible for using the following formula:
HELOC loan amount = (Home value × 80%) – Mortgage loan balance
If you aren’t confident in your ability to work this out yourself, making use of a home equity line of credit calculator can take care of everything for you.
