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Home Equity Line of Credit


It is easy to be tempted by home equity loans, especially since they come with a tax advantage. You can deduct up to $100,000 worth of interest payments on your federal tax returns, therefore, you can turn car loans and credit-card interest over to a tax-deductible home equity loan. However, it is not a good idea unless you are 100% certain that you can make the payments. You are putting your house on the line and if you don’t pay back the loan, the bank can foreclose.

A home equity loan is similar to a first mortgage. You receive a lump sum that you pay off over a fixed period of time at a fixed rate of interest. Your payments are the same month after month. Once you receive the lump sum you are not entitled to additional funds. This loan enables you to know in advance what your payments will be.

A home equity loan may be the way to go if you are remodeling your home, starting a business, paying college tuition, medical expenses or trying to get out of credit card debt with a regimented fixed payback schedule. It is also the best choice if the rate on your first mortgage is too good to give up or you have almost completed payments for your first mortgage and do not want to start payments for another 15 to 30 years.

Home equity lines of credit (HELOC) can be a good resource if you want to access low-rate credit in an emergency, but do not necessarily need the money right away or financing home improvements that will be paid for in stages or within 2-3 years. With rates so low now, home equity lines are a bargain compared to credit cards and auto loans. It can also be used for debt consolidation but unless you have substantial financial savvy it can also be a worse proposal. For this reason before doing so it’s a good idea to speak with a professional credit counselor and go over all your options.

Neither, the home equity loan or the home equity line of credit is a good idea for young homeowners who are just starting out or those who do not have substantial savings and disposable income. Your total debt payments, such mortgages, credit cards, auto loans, student loans, etc. should not be more than 36 percent of your gross monthly income.

Home equity lines of credit work similarly to a credit card, with lower interest rates. You borrow against the line as you need it and pay it back according the schedule which makes it an attractive choice for buying a car or paying for college tuition. The rates for home equity lines of credit are variable and borrowers with the best credit records pay prime or perhaps slightly less. Closing fees are often waived. Lenders offer many ways for you to conveniently tap your available credit, most often by writing checks or using credit cards linked to the line of credit. Most lenders will allow homeowners to draw against a line for 10 years and make interest only payments during this period if they choose. After this period they commit to a regular payment schedule to payback the entire debt.

Experts say you should have three to six months worth of living expenses set aside in a safe, easy-to-access account. As you evaluate this safety net do not overlook your homes equity. For this reason a home equity line of credit may be a great backup if you have an extended layoff or large unexpected expenses.

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