Ask these 11 Questions to Get the HELOC that’s Best for You
A Home Equity Line of Credit (HELOC) allows you to use the equity in your home as collateral in establishing a line of credit you can borrow from when you are in need of cash. A HELOC works a bit like a credit card. You can apply for a HELOC and then pay down your balance and draw funds again and again over the life of the loan. The interest rate of a HELOC is lower than a credit card, because your home is used as collateral for your loan. It’s important to understand the different features and rules related to a HELOC before you apply and when comparing offers from different financial institutions. The lowest rate does not always mean the best deal when applying for any type of a loan or line of credit. A HELOC has an adjustable rate, which means the rate will fluctuate over the term of the loan. This should be an important consideration when making your decision. Here are 11 questions to ask when applying for a HELOC or comparing offers between financial institutions.
What is the total of the line of credit I qualify for?
You want to be sure the HELOC is large enough to meet your needs. The amount you qualify for may vary from lender to lender. Some lenders, such as Benchmark Federal Credit Union may allow members to borrow up to 90% of the appraised value of their home, minus any liens, such as a mortgage balance. Other factors that influence Benchmark and other lenders when determining the amount they will lend include your credit history and debt to income ratio among other qualifications. Other institutions may lend a much smaller percentage of your appraised value and others a bit higher.
What is the HELOC introductory interest rate and period?
If you are lured by a very low introductory rate, be sure to ask questions. That rate probably won’t last long, so you want to find out exactly how long it will last and what it will convert to. Some lenders use this teaser rate to entice you, only to change the rate in a couple of months. A change in rate can change you monthly payment drastically, so it’s important to know that you will be able to afford your HELOC payments as they fluctuate.
How will the HELOC rate change?
The index for a HELOC is the prime rate, so it can be tied to decisions made by the Federal Reserve. You will want to know about your set base rate, which is called a margin, and the fluctuating rate, which is referred to as an index. HELOC rate markups are another thing that can vary from lender to lender. Each month, your payment will be calculated using your balance and a combination of the rate and index.
How high could my payments go?
Ask various lenders you shop about a rate cap or maximum lifetime rate. This could help you immensely in the event of a big spike in the prime. Based on a cap or max, your rate might not go up as high as it would otherwise. Rising payments can be a big risk of a HELOC, so this is a very important question.
What are all of the fees and closing costs involved with the HELOC?
You’ll want to know upfront all costs and fees associated with a line of credit, so you can better compare deals among lenders. There may be an application fee, new account fee, allocation fee, inactivity fee, transaction fee and other charges. Ask the question and read the fine print. There may also be an annual fee, just like a credit card. This will vary from lender to lender.
What are your draw and payment terms?
HELOCs enable you to access your funds for a pre-set period of time, which is referred to as your advance period or draw period. The term may change based on the amount of the line you are borrowing. It could be just a few years or possibly much longer. Once that term is up, you can’t withdraw any more money, and must repay the balance within a certain term. This is referred to as your repayment period.
Is it interest only for fully amortized payments?
This is another important question that varies depending on lenders. Some will require you to make principal plus interest payments. Other HELOCs may have balloon payment terms, in which you would only pay interest during your draw period, but then have a giant one-time payment at the end of the term. This is something that needs to be planned for well in advance if you are on a tight budget.
Is a home equity loan or a HELOC better for my needs?
If you’re still unsure, as a lender what they think. If you are doing one project with a lump sum payment, a home equity loan may be a better choice. On the other hand, if you have a home improvement project that is being completed over a longer time period or education expenses that will run several years, a HELOC may be a better solution.
Is there a minimum draw requirement?
Some lenders may require you to draw from your HELOC several times a year, even when you don’t need the money. Others may have a minimum withdrawal when you do need the money. This takes away some of the flexibility which is a pro of a line of credit. Ask the question and be sure you don’t have any requirements that will negatively impact you.
Is there a prepayment penalty or termination fee?
Say you decide you no longer need the HELOC, so you pay it off and close the line of credit. Will you get whacked with a prepayment penalty? Is there a certain number of years you need to keep the line to avoid this? This may impact your borrowing decision.
Are there any restrictions on what the money can be used for?
Some financial institutions may restrict what HELOC money may or may not be used for. If you have specific uses in mind that may be out of the norm, you may want to ask up front if there are any restrictions.
Applying for a HELOC
Once you’ve done your homework, it’s time to apply for a HELOC. Some lenders, such as Benchmark Federal Credit Union, allow members to apply for a HELOC right online.
While a HELOC provides you with the flexibility of accessing funds as you need them with a possibly lower, adjustable interest rate, there are risks as well. It may be harder to budget for your payments over the life of the line and interest rates could rise significantly. You want to shop around; be sure you are getting the best deal and be sure a HELOC is the best loan for your needs. It’s important to know that you don’t have to get a HELOC from the same lender that handles your mortgage. That’s not necessary at all, and that’s why it’s so important to compare rates, terms, fees and more, and find a deal that works for you.
Learn more about the difference between HELOCs and Home Equity Loans on our blog.