What Is an Interest Only Home Equity Loan?
Home equity loans, like mortgages, come in many varieties, but interest-only home equity loans normally take the form of equity lines of credit or balloon loans. You can secure a home equity loan in first- or second-lien position on a primary residence or another property that you own. On an interest-only loan, none of your standard monthly payments goes towards reducing principal.
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Home Equity Line Of Credit
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When you establish a home equity line of credit, your lender provides you with access to a revolving credit line that you can draw on for up to 20 years. In most instances, you do not have to draw on the line at all, and some homeowners set up these credit lines purely to provide funds for emergencies. If you draw on the line, your lender sends you monthly statements requiring interest-only payments. If you choose to pay more than the minimum due, the additional proceeds are applied to principal.
Amortization
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You can only use your HELOC for 10 or 20 years, after which you must repay the entire balance owed. Your lender normally turns the remaining balance owed into an amortizing 10- or 15-year loan, and you make monthly principal and interest payments to pay off the loan. However, you can pay off the entire balance owed at any time during the period of time when you have access to the revolving credit line.
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Balloon Loans
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When you take out an interest-only balloon loan, you receive a lump sum of cash that you can use to payoff an existing lien, consolidate bills or for any other legal purpose. You begin making monthly payments that cover the interest owed on the loan. These payments normally continue for five or 10 years, after which you must payoff the principal owed. You normally have to pay the principal owed with a single lump sum payment known as a balloon payment.
Uses
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Interest-only balloon loans and HELOCs are useful tools for people who are attempting to reduce their monthly expenses for a period of time. If you are planning on selling a home for profit or you anticipate a significant increase in your monthly income, you may benefit from using one of these loans in the short term. However, HELOCs have variable rates, which means the payments can increase over time. Additionally, the interest-only term also means you are susceptible to owing more than your property's value if home prices fall.
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