A Comprehensive Guide to the HELOC 2024

Found yourself asset rich but cash poor? A home equity line of credit (HELOC) allows you to tap into the equity you’ve built in your home, making them a common choice for covering anything from renovations to unexpected expenses. 

This guide will cover everything you need to know about how HELOCs work to decide whether they’re the right financial product for you. This includes benefits, drawbacks, and how they compare with similar products.

What is a HELOC?

A HELOC is a revolving credit line secured by home equity (the difference between the market value of your home and the outstanding balance on your mortgage).

When you take out revolving credit lines (such as credit cards), you’re not committed to borrowing a fixed amount from the get-go. Instead, you can access the funds you need when you need them up to a certain amount.

This differs from installment loans such as mortgages or auto loans, during which you sign up for a specific loan amount, interest rate, and term then pay it back according to the agreed schedule.

How Does a HELOC Work?

HELOCs work differently to most other major types of loans, so listen closely. 

Your home essentially functions as collateral when you take out a HELOC. This means you can’t default on your loan in the same way as you could for other loan types — as a result, HELOCs typically have lower interest rates and allow you to go longer without repaying your loan.

Repayment and draw periods

Just as credit cards allow you to borrow up to your credit limit over a month before paying back, HELOCs follow a similar logic. 

But in this case, the “draw period” of borrowing generally lasts 5-10 years, and the “repayment period” of paying back is another 10-20 years. 

HELOCs are often interest-only during the draw period, meaning that you will only need to pay interest on what you borrow and not the total loan amount. This can seem tempting, but it means you won’t be paying down the loan balance.

During the repayment period, you can no longer borrow additional funds, and you will owe interest on the loan balance too.

Borrowing Limits

Similarly to how credit cards let you repay some of your balance one day and borrow more later, the same applies to HELOCs. For instance, if your borrowing limit was $20,000 and you had borrowed $19,000, you could make a payment of $5,000 and your borrowing limit would increase from $1,000 to $14,000.

Your approved credit limit (also known as a borrowing limit) is based on:

• Your home’s current value according to an appraisal
• How much you still owe on your mortgage
• The percentage your lender allows you to borrow (based on)

Interest rates

HELOCs usually have variable interest rates, meaning that they move in line with market conditions. To tie interest rates to the market, lenders generally use a benchmark index that tracks other rates in the economy. 

Some other factors that impact them include:

• The amount you borrow
• Your hoe’s loan to value ratio
• Your credit score

HELOC Eligibility Requirements 

Eligibility for a HELOC mostly rests on showing your financial stability and owning enough of your home. This helps to prove to lenders that there’s less risk of you defaulting.

The main requirement for taking out a HELOC is to have sufficient home equity. Generally, lenders require you to own at least 15-20% of your home’s appraised value in equity. Many people who opt for HELOCs have much more. This helps to show you have adequate collateral to secure the loan.

A property should also meet the lender’s requirements, which usually means adequate condition and having insurance coverage.

As with all loans, your credit score is another key aspect. This should typically be 680 or higher, but the exact score can vary depending on the lender.

You may also need a low debt-to-income ratio of below 43% and an employment history of at least two years.

HELOC Example

Let's say you have a property worth $500,000 and want to take out a HELOC to pay for a new bathroom and kitchen. You have $300,000 left on your mortgage, and your lender will let you borrow up to 80% of your home’s value.

First, you need to work out the maximum equity you can borrow. For this, multiply $500,000 by 80%, which is $400,000.

Then, subtract your remaining mortgage balance — in this case, $300,000. You could therefore have a credit limit up to $100,000.

Now, let’s say you ended up borrowing $20,000 during your draw period and the loan was interest-only for this period, with an interest rate of 5%.

Your monthly interest-only payments would be $83.3.

Then, when it came to the repayment period, payments would increase as interest would also be calculated on the $20,000 balance. 

Pros and Cons of HELOCs

Costs of HELOCs

If you’re considering taking out a HELOC, there are a few fees to be aware of first.

The main ones are:

• Application fees for processing the application
• Appraisal fees to value your home
• Closing costs (including origination fees, title search fees, administrative expenses)
• Annual fees for maintaining account
• Early termination fees for closing the HELOC early

Not all lenders charge the same fees, so this is an important point to clarify before agreeing to a loan.

Is Now a Good Time for a HELOC?

HELOC rates are currently higher than they have been in previous years. But this is true of all loans, including standard mortgages and other debt products, so it doesn't necessarily rule out a HELOC if you’re considering other lending products. Plus, many are now predicting rate cuts shortly, which would mean HELOC rates would also decline.

However, ultimately, your decision over whether to take out a HELOC will largely come down to your individual circumstances. For instance, could you afford the payments and other essential expenses if rates were to rise?

To keep up with the curenta activity of rates, you can use Freerateupdate.

Alternatives to HELOCs

If you’re not sure whether a HELOC is right for you, you may also want to consider:

• A cash-out refinance. This involves replacing your existing mortgage with a new home loan for a larger amount, allowing you to access some of your home equity as cash. Unlike HELOCs, it offers a fixed interest rate.
• Home equity loan. This proves you with a lump sum based on home equity. It also has a fixed interest rate, but it allows you to keep your current mortgage.
• Personal loan. If you don’t want to use your home as collateral and only need to borrow a small amount, a personal loan could make sense. However, they typically have higher interest rates than HELOCs.

Consider a HELOC If:

• You need access to funds for a specific purpose, such as home improvements
• You have sufficient equity in your home to qualify 
• You have a good credit score
• You’re confident in your ability to manage the loan responsibly. 
• You’re comfortable with the potential for fluctuations in interest rates 

FAQs

Can I Use a HELOC For Any Purpose?

Yes, you can generally use your HELOC for whatever you want, from debt consolidation to education. However, it’s important to ensure you’re financially responsible.

How Much Can I Borrow With a HELOC?

The amount you can borrow with a HELOC depends on a few factors, such as the value of the home, your outstanding mortgage balance, and your creditworthiness. Typically, you can borrow 80-85% of your home’s equity.

How Long Does It Take to Get Approved For a HELOC?

It usually takes several weeks to go through the approval process, but it can vary depending on the lender.

Can I Pay Off My HELOC Early?

You can usually pay off your HELOC early, but some lenders may charge prepayment penalties.

What Happens If I Can't Make My HELOC Payments?

If you’re unable to make your HELOC payments, the lender could eventually start a foreclosure proceeding and put your home at risk. But there will usually be a period of around two months of non-payment before it reaches this stage.