How it Works
Home equity line of credit (HELOC), like the name suggests, is a line of credit secured by your home; you're are given a limit (similar to a credit card) and you can decide how much to use.
There is a “draw period” where you are allowed to draw up to your limit, and a “repayment period” where principal and interest need to be repaid. During the draw period, only the interest on what was actually borrowed is due to the lender, calculated with a variable interest rate; of course, you can always repay the principal early.
Similar to home equity loans, there are strict requirements, and may be hard for many older adults to qualify. These requirements vary by lender, but typically the maximum CLTV is 80%, maximum DTI is 43%, and good credit is required. If you are wondering what DTI and CLTV are, we have a simple glossary here. Transaction costs are lower than a mortgage or cash out refinance. You continue to be responsible for paying real estate taxes, insurance and maintenance on the home. The interest could be tax deductible if you are using the money for home repairs.
|Home Equity Line Of Credit (HELOC)|
|Cash Amount||Typically up to 80% CLTV|
|Cash Payout Design||Line of credit available through the draw period|
|Repayment Profile||Interest payments during the draw period; interest and principal payment in the payback period|
|Taxes, Insurance & Maintinance||Responsibility of the borrower|
|Transaction costs||Varies; typically low|
WHAT TO CONSIDER
If you need flexible access to credit, and have enough income to pay it back, Home Equity Line of Credit can be a good solution.
An example can be using the proceeds to to pay for home renovations with an uncertain amount. However, it's key to have enough income to safely support the higher debt payment; in particular, it's important to consider that while initial payments may be low, once the “draw period” is over, principal and interest are due, and monthly costs will increase significantly. Defaulting on the debt would put you at risk of losing your home, and it may be difficult for older adults to qualify because of strict requirements. One last thing to consider is that lender can cancel the unused portion of the line of credit.
|Home Equity Line of Credit (HELOC)|
|Best Fit When||Cash needs are unpredictable, and line of credit can provide peace of mind; income is considered sufficient to repay the debt|
|Considerations||It can be harder to qualify for many older adults, debt needs to be repaid, and lender can close the line of credit for the portion not borrowed at any time|