If you have ever spoken to a female about her footwear, you quickly come to realize that her footwear, even though it all looks like a shoe (at least in the eyes of this writer), can have many different names. There are pumps, sandals, wedges, platforms, closed-toed, open-toed, yada, yada, yada. No matter what they are called, they are still shoes. The same can be said for an Equity Line of Credit.
We’ve all heard of it in some way shape or form. Perhaps we have heard the term HELOC, or ELOC, or HEL, Second Mortgage, or even the long winded Home Equity Line of Credit. No matter what you call it, generally speaking, they are all referring to the same thing: a revolving line of credit secured by the equity you have in your home.
A word of caution here: The term Second Mortgage or HEL could be referring to an Equity LOAN which is a fixed rate, fixed payment product that also uses the equity in your home but is not revolving.
So what is an Equity Line? How can I get one? What are the benefits? What can I use it for? When should I avoid an Equity Line? What should I be wary of? All great questions that I hope to answer for you.
What is an Equity Line?
An Equity Line is a revolving line of credit that is secured by the equity in your home. Your garden variety equity line will have a variable interest rate based on some increment over the Prime rate. This means that if the Prime rate increases, the interest rate you are paying on your line will also increase. It will also have a set term that you can access your money, also called a draw period. During this draw period, you can access your funds, pay it back, and have access to it again – think Credit Card. At the expiration of the draw period, some equity lines will automatically convert to a repayment period in which the balance is fixed (no more draws) and the payment amount is fixed to have the loan repaid in a specified period of time.
How can I get one?
Most banks offer some type of Equity Line (Remember the shoes?). The banker will check your credit and depending on your score, may increase or decrease your rate. They will also want to have a valuation completed on your home to determine how much lendable equity you have. Most lenders will lend up to 80% (some will run specials up to 85% and even 89% but the average is 80%) of the value of your home, less the amount you owe on your mortgage. Your interest rate can also be affected by the amount you are borrowing and the total loan to value (outstanding mortgage plus equity line amount).
What are the benefits?
The benefits of an Equity Line are pretty expansive. It provides you with access to the cash that is tied up in your house (equity). You can use the funds for most any purpose you deem appropriate. Through the consultation of a tax advisor, the interest that you pay on the line may be tax deductible. The list can go on and on.
What can I use it for?
Almost anything! Like shoes, an Equity Line is pretty versatile. You can use it for home improvements, medical expenses, educational expenses, vehicle purchases, emergencies. Like the benefits of an Equity Line, this list can go on and on, as well.
When should I avoid an Equity Line?
Equity Lines aren’t for everyone. If you are someone who has a tendency to have high credit card balances and the only way you pay them off is through a consolidation loan, an Equity Line is not for you. If you are looking for funding for day-to-day expenses, an Equity Line is not for you. If you need a large sum of money all at once, you may be better served with an Equity Loan instead of an Equity Line. If you are worried that interest rates are going to be increasing and your finances don’t have room for an ever increasing payment, an Equity Line may not be your cup of tea.
What should I be wary of?
This is a very loaded question with no short answer. Market conditions are ever changing and what you should be wary of one day may not be the same on the following day. Through consultation of your financial institution, the financial professionals there can walk with you and answer any questions that you may have. They have the knowledge and experience to point you in the right direction and ensure that your needs and desires are satisfied. And as a safety net, if you decide to pursue an Equity Line, there is a built in “Oops” period. That’s right! An Equity Line has what is called a Right of Rescission. This right to rescind is good for three (3) days from the day you sign the closing papers so if you get home and something just doesn’t feel right, you can cancel the line.
With an Equity Line, you should always remember that the collateral for the line of credit is your home, the roof over your head. A very sobering question to ask yourself when you are planning to do anything involving funds from your Equity Line is: Is it worth losing my home over? Admittedly that is a worst case scenario but as the most recent economic hiccup has shown us, not entirely out of the question.