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By Jamie Smith
A home equity line of credit (HELOC) is a way to get a revolving line of credit against the equity in your home. Equity refers to the difference between the appraised value of your home and what you currently owe on it. A HELOC works very similarly to how a credit card works, where you can use as little, or as much, as you like and pay monthly installments on the balance.
When you're applying for a HELOC, what to expect with the process is something you should understand.
A home equity line of credit is very much like a credit card in that you can borrow money against your limit as often as needed until your balance reaches the credit limit. Typically, a HELOC has a variable interest rate based on the baseline interest rate. As the baseline interest rate fluctuates, the rate on your HELOC will also fluctuate accordingly. Your rate will be the index rate plus an adjustment based on your credit history.
A cash-out mortgage pays off the balance on your existing home mortgage. You then take out a new mortgage that includes a cash-out amount of up to 80% of your home's value. You can use this cash-out on anything you like, such as home renovations.
This new mortgage is subject to fees such as closing costs, and it gives you the cash-out amount in one lump sum. A HELOC doesn't typically incur closing costs and lets you withdraw money as needed during your draw period.
Requirements vary from lender to lender, but the general conditions are as follows:
Applying for a HELOC is very similar to applying for a regular mortgage. You will need to have acceptable credit history and documentation related to income and other aspects of your financial situation. The steps are as follows:
Documentation needed for a HELOC application includes pay stubs, tax returns, W-2s, tax bills, a homeowner insurance policy, credit report, recent appraisal of the home, and current loan information. If you're self-employed, you'll need tax and bank statements to prove your income and that it's stable.
The maximum amount you can borrow will follow from the maximum percentage of the value of your home that the lender will allow. The HELOC plus the current mortgage must be below their determined portion of the appraised value, typically around 90%.
As an example, let's say you own a $250,000 home with a mortgage that has a remaining balance of $150,000. The lender will allow up to 80% of the home's value overall that you can borrow against it. In this case, take 80% of $250,000, and you get a value of a $200,000 maximum total you can borrow against your home. Since your mortgage has a balance of $150,000, you would subtract the two figures and get the maximum HELOC limit of $50,000.
A HELOC involves two stages, the draw period and the repayment period. The draw period is the time frame in which you can borrow against your line of credit via transfer or a check. The draw period is also variable but is usually seven years.
Once you have entered the repayment period, you can no longer borrow against the credit line, and you must pay off the remaining interest and principal. Most of the time, the repayment period is 15 years.
Another aspect you should consider is that some lenders have a balloon payment at the end of the loan, which would be a large lump sum due at the end of the loan. To avoid this extra payment, make sure you can pay it all off during the repayment period or refinance your HELOC.
It depends. You have to examine your goals and your current financial situation and decide whether the HELOC fits. Typical usage for a HELOC includes renovations, repairs or additions to your home, which could increase the value of your home. Another upside to a HELOC is that the interest may be tax-deductible if used to improve your home. Please consult your tax advisor regarding interest deductibility as tax rules may have changed.
Other uses for a HELOC include education and vacations.
Getting the best rate possible for your HELOC is entirely up to you. Do the research, find who offers the best rates, and get several quotes to verify. An excellent place to start is your current bank, credit union or mortgage lender.
An Alliant HELOC could help you get the funds you need when you need it. Pay for a home renovation, vacation home and more.
Want to learn more about HELOCs? Check out these other articles:
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