How Do HELOC’s (Home Equity Lines of Credit) Work?


A home equity line of credit, or HELOC, is a secondary mortgage loan set up as a line of credit that lets homeowners withdraw funds for a variety of purposes. These mortgage loans are used to fund sporadic needs such as debt reduction, home improvements, college expenses, etc.HELOC’s have a withdraw period, wherein the borrower can draw on the line, and a repayment period, in which the funds must be repaid. Standard withdrawal periods are five to ten years. On the other hand, repayment periods are extended – usually ten to twenty years. The distinction between the two periods is that borrowers are only obligated to pay interest in the withdrawal period, whereas the repayment period includes a payment of interest and principle. Home equity lines of credits vary, and some require repayment of the entire balance once the initial withdrawal period ends.How to Qualify for a Home Equity Line of CreditTo qualify for a HELOC, mortgage lenders look at the loan-to-value ratio. The majority of home equity lines of credit require a LTV less than 75%. In other words, if your mortgage balance is $115,000, and your home is worth $230,000, the loan-to-value is 50%, and you are eligible for the loan.What’s more, mortgage lenders have to ascertain that an applicant can pay back the withdrawal money. To meet the criteria for a home equity line of credit, the borrower’s debt-to-income ratio, which includes payment for the HELOC, must be less than 55%.Home Equity Line of Credit DisclosuresDisclosure statements contain important information about HELOC’s. Terms vary according to plan, and each borrower should set aside time and review disclosure contents. The home equity line of credit terms are subject to change. For example, the interest rate can increase. Additionally, the mortgage lender can terminate the line if the following occurs:1. If borrower defaults on repayment2. If borrower’s financial circumstances change3. If borrower falsified loan documents4. If the property’s value decreases