Great read if you are interested in getting a HELOC. Courtesy of Realtor.com.
With most home equity loans, a lender gives you a sum of money and you pay it back with interest. With a home equity line of credit—or HELOC—you use your home as collateral to establish a line of credit you can borrow from.
Since HELOCS are different from other kinds of loans, it’s important to understand some lesser-known aspects before you go loan shopping.
HELOC Terms to Know
- Draw period: a fixed length of time when you can pull money out of your line of credit. It can vary in length, so watch for short draw periods and plan accordingly. Plans can differ: some plans may require you to draw a minimum amount of money whenever you use the line of credit. Others may allow interest-only payments until the draw period is over, before requiring the outstanding balance to be repaid. At the end of the draw period, you may be able to renew the line of credit.
- Repayment period: the period when you must make payments on your loan. This follows the draw period.
- Intro rates: the introductory rate is a teaser rate, which can fool you if you aren’t familiar with it. Teaser rates are low, temporary rates used to entice buyers and can increase dramatically after the introductory period.
- Margin: the profit the bank makes, which is the percentage above the prime rate. It will be expressed as “prime + 2″ or “prime + 5″. The higher the margin, the higher your rate.
Knowing these concepts, you won’t be duped by offers too good to be true.
And watch for the loan officer who tells you something like, “After the intro rate, your interest will be based on prime.” This is misleading and might make you think you’ll pay “prime + 0″.
That isn’t true. They are simply saying the index used is prime, but there is always a margin. Ask what the margin is and add that to prime to find out your interest rate.
7 Questions to Ask a Loan Officer About a HELOC
There are various costs involved with a HELOC you need to know in order to properly compare different HELOCs. When loan shopping, ask your loan officer these questions:
- What is the introductory rate and period? If there is a very low introductory rate, it won’t last long. You will probably pay for it in a higher margin or higher interest rates.
- What is the margin? This is a key thing you need to know when comparing HELOCs. Your interest rate will be prime plus the margin.
- What is the minimum draw requirement? This will be the minimum you must take out at closing.
- What is the average balance I am required to keep? Many HELOCs require you to keep some sort of balance and therefore pay some sort of interest, but this amount is usually small.
- What are all the closing costs? Closing costs for HELOCs are relatively small. Watch for extra fees and compare Good Faith Estimates (GFE), the document that estimates all fees associated with your loan, from different lenders.
- What is my annual fee? HELOCs often have a small annual fee. They vary from lender to lender.
- Is there a cancellation fee? With a standard mortgage loan, you often have a prepayment penalty. With a HELOC, you usually have a cancellation fee.
It is important that you understand these features of a HELOC. Armed with the correct questions to ask your loan officer, you can choose the best loan for you.