A home equity line is a type of revolving credit wherein the borrower is allowed to withdraw the approved amount in bits and pieces. Home equity line is extended to debtors who have positive home equity in their mortgaged home. If you are not positive in terms of owning your home then a bank will not offer you a loan that goes against your home since that will put your mortgage situation in the red or underwater and this would be financially illogical from a lender’s point of view. In addition, it would also put the borrower in a perilous position.

The Underlining Difference

Emergency medical expenses or ongoing medical expenses, educational funding, and/or projects that involve renovating the home are some of the expenses which are typically funded by borrowers using a home equity line of credit. Though technically it is a second mortgage, few subtle differences do exist. For instance, in the case of a second mortgage, the repayment and the rate of interest are fixed. In case of a home equity line, the interest is floating; the monthly payments depend on the amount of the borrowed amount. This difference is actually quite sharp and apparent.

LTV and DTI

In a home equity line, the amount of credit extended usually is a certain percentage of positive home equity you own. For instance, if the present market value of your home is $100,000, and you are eligible for a 75% home equity line, the amount thus lended is equal to $75,000 minus the balance owed by you regarding the mortgage. This is known as the loan-to-value or LTV ratio, there are actually 4 of these ratios that are most common. In this scenario, the LTV would be 75%. Your credit history and score, your current debt-to-income ratio or DTI, and other expenses determine what percentage can be used for a home equity line. When considering this, make sure you are working with trustworthy individuals from a solid company.

Home Equity Factors

Most of the home equity lines have a fixed period during which you can withdraw the amount pre-approved. Many lenders allow you to renew this lending or withdrawing period. If that is not the case, at the end of the previously approved withdraw period, you need to settle the debt before you borrow again using the same method. The repayment tenure varies according to the borrowed amount and rate of interest, but it also can be fixed depending on your credit history. You can withdraw the approved amount as and when you wish according to your needs. However, certain borrowers may want you to withdraw a minimum amount or might enforce an obligation wherein you need to have a certain minimum amount as outstanding debt. Withdrawals can be made using regular or standard methods or through a credit card.

Critical Considerations

While shopping for a home equity line of credit, the annual percentage rate (APR) and fees associated with the mortgage should be taken into consideration to determine the debt products effectiveness. It is also important that you know beforehand that how the variable rate of interest is calculated. Also ascertain if the lender at a later date allows you to convert the floating rate interest plan into a fixed interest plan. A fixed rate of interest along with a fixed repayment period will allow you to save thousands of dollars, just in interest alone.

Want to Sell Your Home – Not so Fast

As far as the repayment is concerned, you need to have a sound game plan for this. Usually, the monthly payment comprises the principal amount and the accrued interest. Some plans are interest only payment plans. This means, at the end of the repayment period, your principal debt remains as it is. Mortgage lenders encourage and reward early and higher payments from borrowers; this is not always the case for lenders though since lenders in the credit card industry do not mind if you are making monthly payments to them until the end of time. Moreover, in case you decide to sell the home before the repayment period of home equity line of credit ends, you need to settle the debt first only after which the property can be sold.

A Final Contemplation

If a variable interest rate is not something you wish to officially link your name to, then selecting a second mortgage is an easier and possibly a more suitable option for you. Unlike in a home equity line, the rate of interest, monthly payment, amount lended and tenure, are all fixed and set in stone. You need or should compare both debt products in detail before you decide which one is more appropriate for you.