Equity Lines & How They Work

Equity lines function similarly to credit cards, but with better rates and higher risks.

A home equity line of credit, or HELOC, is one of the common ways to tap into your home's equity to get affordable loan financing. Unlike home equity lines, which are lump sum loan payments with an amortized repayment schedule, equity lines are a revolving credit line that you borrow from as needed, and then repay only what you borrow.

Basics

A HELOC is similar to a credit card in function, but it usually offers a much lower interest rate because you have to secure the equity line with your property. This lien against your property reduces the lender's risks and allows them to offer you a better rate. With a HELOC, you can draw funds up to your predetermined credit limit as needed, according to Lending Tree.

Getting a HELOC

To get a HELOC you have to meet certain lender qualifications and provide evidence of your ability to repay the loan. While Lending Tree points out that some lenders allow you to borrow up to 125 percent of your home's value, most only let you carry home loans totaling 80 to 100 percent of your home's value. Thus, if your existing mortgage takes up 60 percent of your home's value, a lender allowing up to 100 percent could allow for a HELOC equal to 40 percent of your home's value. To qualify, you usually need proof of income, home ownership, your mortgage information and an appraisal, which establishes your equity value.

Using a HELOC

Often people choose a HELOC over a home equity loan because they want flexibility to use the funds for purpose without a specific, known cost. Once you draw on the funds using a debit card, check or funds transfer, you are expected to repay the balance as outlined by your lender. Many HELOCs only require interest payments each month during your initial 10 to 15-year draw period. You can pay extra toward principal to pay off your balance sooner. Once the draw period ends, your remaining balance is amortized for a fixed period payoff, during which you pay down your monthly balance along with interest, indicates Lending Tree. You can no longer access funds from the line at the time.

Considering a HELOC

A lower interest rate than you get with unsecured credit is a main reason to use a HELOC for college tuition, home projects or debt consolidation. However, you increase your property's exposure to loss if you fail to meet repayment obligations. MortgageLoan.com encourages homeowners to outline a worst-case scenario with your lender so you understand any maintenance fees and expenses associated with getting and maintaining a HELOC. Some lenders include check-writing fees and account maintenance fees that make a HELOC more expensive to use.

References

• MortgageLoan.com: Home Equity Line of Credit
• Lending Tree: Home Equity Loan vs. Home Equity Line of Credit