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Overview
HELOC is an acronym for a home equity line of credit, which is a kind of second mortgage that provides the borrower a revolving line of credit secured by his home rather than a lump sum. The borrower is given checks that he can use to draw down his HELOC. Since a HELOC is essentially a mortgage loan that is collateralized by your house, its interest can be tax-deductible regardless of the use of those funds. Once it is set up, a HELOC costs you nothing until funds are withdrawn. Then you make a monthly payment based on your agreement with the lender.
Time Frame
There is no standard length of time for a HELOC. For example, it can operate for 5 or 10 years, with you paying only monthly interest on your withdrawals and ending with a balloon payment. Some HELOCs allow withdrawals for a certain period of time, during which you pay interest only, then it amortizes payments of principal and interest over an additional period of time.
Warning
A HELOC should be viewed in the same way that you view a first mortgage because both of them are secured by your house. If you fall behind on your HELOC, the lender can institute foreclosure proceedings to recover its loss, much like it would on a first mortgage. And if the sale of the home does not satisfy both mortgages, the lender(s) can pursue you for the remaining amount.
Considerations
There are numerous reasons why a HELOC may not be right for you. First, most HELOCs carry an adjustable rate of interest, so if the interest rate rises, so do your monthly payments. In addition, unlike most adjustable rate first mortgages, a HELOC ordinarily does not cap the rate it charges, although most HELOCs will not exceed a stated percentage over its lifetime. For that reason, if interest rates escalate over a short time, you will see an increase in your payment. Furthermore, if you decide that the HELOC is not for you and you cancel it, many call for a so-called early closure fee that can run several hundred dollars. Finally, your HELOC may state a minimum amount that you can withdraw. Also, most HELOCs provide that the lender can arbitrarily reduce the credit amount. And you may have a problem refinancing your first mortgage because the HELOC lender must agree to it.
Benefits
Most HELOCs charge lower interest than personal loans or credit cards. Because it will be secured by the equity in your house, a HELOC can provide far more credit than credit cards or personal loans. The interest on most HELOCs is tax-deductible because it is secured by your house, and it is technically considered a mortgage. And the fees for setting up a HELOC can be far less than if you were to refinance your mortgage or secure a home equity loan.
Terms
To attract HELOCs, many lenders offer special features to lure customers their way. For instance, some lenders require only interest payments during the period when you can make withdrawals. This may be of little interest to you, but knowing you can pay the lender a reduced amount during difficult times is a benefit. Many lenders allow borrowers to convert a HELOC's variable interest rate to a fixed rate, particularly if you are concerned about rising rates. Some lenders offer an introductory rate and term. You may find many of these terms are not available in your market, but it is smart of you to ask.
