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By Jamie Smith
When your home's value is greater than the size of your mortgage, this positive difference is called equity. Having equity in your home can act as leverage to help you secure loans and funding. Homeowners with sufficient equity in a house can take out loans against property, refinance their mortgage to pull out cash and apply for a home equity line of credit (HELOC). In this article, you'll learn the following:
A HELOC allows you to borrow against the existing equity in your home. It's a revolving line of credit, like a credit card, that lets you draw money as needed and then pay it back. The equity is the value of your home less the existing mortgage balance, and you can borrow against it instead of taking out a one-time loan from a bank or commercial lender.
A HELOC is a flexible tool that can operate as an emergency fund and grant you access to money even if you don't need to use it immediately.
Some of the key benefits of a HELOC include:
When you have a HELOC, you have a revolving line of credit. You can pull funds and replenish them. For example, if you have a $30,000 HELOC, you can borrow $10,000 from your HELOC, pay it back, and have access to $30,000 again.
To get access to a HELOC, you'll first need to apply to a bank, credit union or similar lender; it does not need to be the same provider as your mortgage lender. Based on the details included in your application, such as your credit score, existing equity and mortgage value, and more, the lender will approve you for a certain amount at a variable interest rate.
After closing, you'll typically have a seven- to ten-year draw period to access funds up to the approved total. During the draw period, borrowed funds will incur a variable interest rate.
After the draw period, you'll have a repayment period of up to 20 years. During this period, you cannot draw from your HELOC.
One popular alternative to a HELOC is a home equity loan. This option operates more similarly to standard loans. A lender approves you for a specific loan amount and interest rate based on your equity in the home, debt-to-income ratio, and other factors. Then you receive the loan amount in full, as well as specific payment requirements for paying it back on time.
Both options have their advantages.
Unlike many traditional loans, a HELOC doesn't have a fixed interest rate that you have to pay for any funds you borrow. Instead, HELOCs generally have a variable rate. A variable rate gets calculated from a variable index and a fixed margin, and most lenders use the Wall Street Journal's U.S. Prime Rate to determine the variable rate. This amount can change from month to month throughout HELOC periods.
Several factors affect the maximum amount you can access through a HELOC arrangement. They include:
As a general rule, you can follow this formula to calculate the amount you can access through a home equity line of credit arrangement:
(Home value) - (remaining mortgage balance) x 0.90 = maximum HELOC amount
The amount of money available to you through a HELOC is roughly 90% of the equity you have in your home — that is, the difference between the home value and the outstanding debt amount you owe on your mortgage.
For example, if your home is worth $300,000 and has a remaining mortgage balance of $100,000, your equity is $200,000. Ninety percent of that amount is $180,000. Under advantageous conditions with excellent credit and verifiable employment, you could be eligible for up to $180,000 through your HELOC.
However, this formula provides a rough estimate, and it doesn't tell you the interest rate or other terms of the agreement. To get a more detailed evaluation, you'll need to reach out to a qualified lender.
Follow these steps to estimate and increase the amount you can access through a HELOC:
Raising your credit score will give you access to higher funds and better interest rates. A score of 650 and above increases your odds of being approved for a HELOC with favorable terms.
Get estimates from a couple lenders.
If you're curious about the amount you can qualify for but don't want to go through prequalification processes just yet, use a HELOC calculator to get an estimate based on your equity, credit score, and loan-to-value ratio.
At Alliant Credit Union, we're here to help you consolidate debt, start a home improvement project or tackle other goals with a HELOC. Learn more about Alliant HELOCs.
Want to learn more about HELOCs? Read these articles:
*While the information provided is based on our understanding of current tax laws, and has been gathered from sources believed to be reliable, it cannot be guaranteed. Federal tax laws are complex and subject to change. This information is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific situation with a qualified tax or legal advisor.
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