Home Equity
Home Equity Lending
AKA 2nd Mortgage Options
Home equity lines of credit (HELOCs) and home equity loans (HELOANs) are similar methods of borrowing money against the equity you have in your home. A HELOC is a line of credit with a variable interest rate, while a home equity loan is a lump-sum paid back in fixed installments for up to 30 years – just like a regular mortgage.
A lump-sum loan for a defined term with fully amortized repayments that include both principal and interest. Interest rates are fixed.
A revolving line of credit where funds can be withdrawn as-needed. Payments often include interest-only. Interest rates are variable.
Two Phases of Home Equity Products
Withdrawal Period
The withdrawal period, also known as the draw period, is the phase during which you can access funds from your home equity loan. This period typically lasts 5 to 10 years. During this time, you can borrow up to your limit, often via a line of credit. It’s flexible, allowing you to withdraw funds as needed, similar to using a credit card. Interest is usually charged only on the amount you draw, not on the entire credit line. Payments during this period are often interest-only, which keeps them lower but doesn’t reduce the principal amount.
Repayment Period
Following the withdrawal phase is the repayment period. This phase can last 10 to 20 years, depending on your loan terms. During the repayment period, you can no longer draw on the equity. You must start paying back both the principal and the interest on the amount you borrowed. This means your monthly payments will be higher than during the withdrawal period. It’s crucial to plan for this increase in payments to avoid financial strain. The repayment period is all about steadily reducing the loan balance until it’s fully paid off.
PROS & CONS
Home Equity Lines of Credit
Pros
- Allows for Interest-Only payments during the draw period
- Draw funds on an as-needed basis
- Interest is only charged on your outstanding balance
- Variable rate - if market rates improve, so will your interest rate
Cons
- Unpredicatable monthly payments
- May include an early termination or early payoff fee
- Variable rate - if market rates increase, so will your interest rate
- Payment spikes for repayment period to include principal + interest
VS
Home Equity Loans
Pros
- Fixed interest rate
- Predicatable monthly payments
- All proceeds disbursed at closing
- Limited origination fees at closing
Cons
- Interest charged on the full balance from Day 1
- Cannot draw additional funds if needed
- Larger monthly payment which includes principal + interest
