A Home Equity Line of Credit (HELOC) is a type of revolving credit in which the borrower uses their house as collateral for an additional loan. HELOCs can be used for a variety of reasons from education to medical emergencies. While there are several benefits of taking a Home Equity Line of Credit out on your house, there are also drawbacks to be aware of before deciding to take one out.
What is a HELOC?
According to the Federal Reserve Board, HELOCs are lines of credit that pledge the equity in a person's home, often their most valuable asset, as collateral. When a person takes out a HELOC, he gets approved for a specific amount of credit, based on the amount of equity he has in his home and also his current income and debts. Once this credit is lent, the homeowner can use the money for almost anything, from a new car to paying past due bills. The money from a HELOC is usually withdrawn by the homeowner bit by bit rather than in one large lump sum.
Why Get a HELOC?
People take out HELOCs for a variety of reasons. The Federal Reserve Board states that because the equity in a person's house is usually their greatest asset, people usually don't use HELOCs for everyday expenses like grocery shopping. People usually get a Home Equity Line of Credit to pay for important medical expenses, to pay for college tuition or to pay for major home improvements like remodeling. Wells Fargo bank states people also get HELOCs to help their finances in times of major life-changing events like weddings and the birth of a new baby.
Benefits
One benefit of HELOCs is they provide homeowners with the ability to afford things they may not otherwise have been able to afford. A person may be able to take out a HELOC even if he does not qualify for other conventional types of loans. Home Equity Lines of Credit are usually flexible as well in the fact the homeowner can choose to get a fixed interest rate HELOC or a variable interest rate, for instance if they know they only need the money for a short period of time and the interest rates are low. According to Wells Fargo Bank, the interest paid on a Home Equity Line of Credit is usually tax-deductible, which is another benefit to HELOCs.
Drawbacks
There are some drawbacks to be aware of regarding Home Equity Lines of Credit. The Federal Reserve Board states some HELOC plans allow borrowers to withdraw a minimum amount of money every time you withdraw money, while other plans require that you take a specific amount at the very beginning. In that sense, HELOCs are not always flexible because there are specific requirements regarding how much money you can withdraw and when you can withdraw it. Another drawback of HELOCs is all of the costs associated with obtaining one. The Federal Reserve Board states the fees involved include a property appraisal fee, an application fee, up-front charges like points and additional closing costs. These costs can add up to be thousands of dollars.
Your Rights Regarding HELOCs
Because of the potential loss of equity if you default on your repayment of a Home Equity Line of Credit, borrowers have specific rights before, during and after obtaining a HELOC. The Federal Reserve Board states the Truth in Lending Act, which applies to all loan transactions dealing with the borrower's primary residence, gives the borrower three days to cancel the HELOC after signing the paperwork and opening the credit line. This act does not require any specific reason for cancellation, so borrower's can cancel a HELOC within the specified time period for any reason at all. If the borrower cancels within three days, it is also the right of the borrower to get all fees, such as application fees returned to them from the lender.
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