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How a Home Equity Line of Credit (HELOC) Works for You

A Home Equity Line of Credit has all the benefits of a home equity loan with the convenience of a credit card. You borrow money from a lender, using the equity in your home as collateral.

If your home is worth 250,000, and you owe $100,00, you could have a line of credit as high as $150,000 (the difference between what your home is worth and what you owe.)

With a Home Equity Line of Credit or HELOC, you take out some or all of the money available to you in your credit line, and pay it back in monthly payments over a long period of time – often 10 years. As you pay the money back, it becomes available to borrow again. You can borrow against your line of credit as often as you like, for any purpose. After a set number of years, you have to stop borrowing, and only make payments.

A HELOC is essentially using the equity in your home as a credit card, only with much better terms. The interest rates on a HELOC are usually only slightly higher than the going rates on a first mortgage. Credit cards charge 13% to 28% and a home equity line of credit may charge around 3% – 4%. And the interest is tax deductible.

Advantages of a Home Equity Line of Credit

A home equity line of credit has many advantages over other types of loans and credit cards:

Lower Interest Rates: The interest rate on a home equity line of credit is around 3% – 4% APR, which is lower than other loans, and significantly lower than credit cards.

Tax deduction: A home equity loan is one of the few consumer loans that allow a tax deduction on the interest. So you save on the interest, and also deduct it from your taxes.

Use as Needed: You can open a home equity line of credit and not use a dime of it until you need it. Think of it as a safety net for unexpected expenses. If you have a huge car repair or medical emergency, you have this affordable line of credit available at a moment’s notice.

Easy Access: Most lenders provide easy access to your home equity line of credit. You can write a check, make an online transfer to your checking account, or possibly have debit card access.

Best Uses of a Home Equity Line of Credit

Because of the low interest rate, tax deductibility, and easy access, these are the best uses of a home equity line of credit:

  • Consolidate debt – pay off high interest credit cards and loans
  • Educational expenses – interest rate is usually better than student loans
  • Purchase a new vehicle – interest rate may be similar but a HELOC gives you a tax deduction
  • Refinance a vehicle – pay off your current car loan
  • Major expense such as a wedding or vacation – lower interest and better terms than credit cards

How to Find the Right Lender for Your Home Equity Line of Credit

A HELOC is relatively easy to get because your home is collateral in the loan. Most lenders offer competitive rates and terms because they want to lend for HELOCs. However, some lenders add fees and others don’t. Here’s what to look for when choosing a lender:

  • No application fee(If your lender charges one, make sure it’s refunded at closing)
  • No closing costs
  • No appraisal fees
  • No usage fees (you should not be charged for accessing your HELOC)
  • No management fees
  • No pre-payment penalty

If your HELOC has a variable interest rate, here’s what to look for:

  • Rate should initially be lower than fixed rates
  • Rate should be adjusted quarterly
  • Make sure there’s a cap on how high the interest rate can adjust
  • Option to switch to a fixed rate later

What’s the Difference Between a HELOC and a Home Equity Loan?

Both loans use the equity in your home as collateral. A home equity line of credit is a revolving loan, just like a credit card. You have a credit limit, and you can take one lump sum or multiple smaller amounts over time. As you pay back the amount you’ve borrowed, you can borrow it again. A home equity loan is a one-time lump sum you borrow, just like you do with your mortgage. In fact, a home equity loan is also called a second mortgage. It works exactly like your first mortgage, and has low interest and is tax deductible. The terms may not be as long as your first mortgage, but are generally around 10 years. This is a good option if you need cash for one major project like a home remodel.

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