If you want to access the equity you’ve built up in your house but aren’t sure how to do so, you’ll want to read up on the ins and outs of home equity lines of credit (otherwise known as HELOCs).

What is a HELOC?

A home equity line of credit is a way to borrow against the equity you’ve built up in your home. Once you have a home equity line of credit set up, you are able to borrow money against whatever you’ve already paid off on your mortgage. You have to pay interest on the money you borrow, but you can take out as little or much as you need. You will also have to make regular payments on whatever amount you borrow, but the account is essentially a revolving credit account, secured by your home and based on whatever you’ve already invested in your home.

Reasons to Take Out a HELOC

People often take out HELOCs for the following reasons:

• To pay for college
• To start a business
• To fund home improvements
• To pay down unexpected bills
• To consolidate debt (which is wise if the interest rates are higher than the HELOC rates, especially since you’ll be able to write off the interest paid on the HELOC payments but probably can’t write off the interest paid on other debts)
• As overdraft protection (Some lenders allow you to sign up for automatic withdrawals from the HELOC whenever your checking account is in danger of overdrafts)

How Does a HELOC Differ From a Home Equity Loan?

Both accounts are based off the equity in your home, and both are secured by your home as collateral.

However, a home equity loan is delivered as a lump sum. You make monthly payments on it like you would on any other loan.

A home equity line of credit is more flexible because it’s a revolving account. You take out as much as you need as time passes. You still make monthly payments on the line of credit (if you’ve got a balance at the time), but you don’t have to take out the entire lump sum of money at any point.

When is it Advantageous to Take Out a HELOC Instead of a Home Equity Loan?

It’s best to take out a HELOC if you need flexibility or don’t need the money now, but want access to it for future scenarios.

It’s best to take out a home equity loan if you have a specific project or financial need with a defined amount and time frame. Then you can take out the specified amount at a fixed rate and repay the fixed monthly payments without having to worry about variable interest rates (which may cost you more in the long run).

How Much Money Can You Borrow Through a HELOC?

The amount of equity you can access will vary from lender to lender. Most lenders will let you access between 75-80% of the equity you’ve accrued, assuming you look like a safe borrower.

Factors Considered (by Lenders) When Qualifying for a HELOC

When you apply for a HELOC, the lender will consider the following factors:

• Your credit score and details off your credit report
• Your current income and income history
• Your debt-to-income ratio
• Your borrower risk (how likely you are to repay the loan)
• Your home’s value
• How much you’ve paid down the mortgage thus far
• Your mortgage payment history
• The current and projected home sales environment of your region

That may sound like a lot of factors, but HELOCs are often easier to qualify for than other types of loans. This is because you’ve already qualified for the first mortgage and your home will be used as collateral, which makes the lender feel more secure.

Advantages of HELOCs

There are several advantages to taking out a HELOC instead of a different type of loan, such as:

• Flexibility – You only need to take out what you need to borrow at any given time
• Tax Deductions – You can deduct some or all of the interest you pay, reducing your taxable income
• Possibility of Improved Credit Score – If you make your HELOC payments on time and use the account prudently, it may improve your credit score

HELOC Pitfalls to Avoid

The following are commonly made mistakes you’ll want to avoid:

• Not considering the impact of variable rate interest
• Failing to make monthly HELOC payments on time, which can result in the loss of your home (since that is what secures the loan)
• Not planning ahead well enough such that you can repay the HELOC balance before selling the house (the HELOC must be satisfied or paid off with proceeds from the sale of the home before you can be released from the obligation)
• Not comparison shopping between lenders and therefore ending up with high interest rates or access to less of your equity than another lender might offer
• Signing up for a balloon HELOC without considering the impact of that balloon on your future financial situation (such HELOCs have appealing initial rates and terms, but can really knock you off your feet later when the balloon phase starts)

Helpful HELOC Tools and Resources

You can start figuring out how the numbers will look for you by filling in the slots on this home equity line of credit worksheet

You can compare home equity lines of credit to refinances and home equity loans by using the following home equity calculators

If you have any concerns about home equity line of credit terms, consider contacting these Federal Agency Contacts to investigate loan terms or conditions