Home equity line of credit

Unlike other home loans, a HELOC doesn’t give you a lump sum upfront. Instead, you’ll receive a line of credit that you can use for things like home renovation projects, debt consolidation, or any other major expenses.

You can borrow as many times as you want, up to your credit limit, during the loan’s draw period. Once the draw period ends, you’ll enter the repayment period to pay off your balance. HELOCs can have draw periods of up to 10 years and repayment periods of up to 20 years.

The amount you can borrow on a HELOC varies based on how much equity you have in your home and other factors. Generally, most lenders offer credit lines around 75% to 85% of your home’s appraised value, minus any outstanding loan balance you have on your first or second mortgage.

HELOCs and home equity loans both let you borrow cash against your equity, and they both use your home to secure the loan. In addition, both are examples of second mortgages.

The primary difference between a HELOC and a home equity loan is the way you receive the cash and repay the loan.

As mentioned earlier, HELOCs give you a line of credit you can draw from as needed throughout the draw period. Depending on the loan, you might be able to make interest-only payments during the draw period.

A home equity loan gives you an upfront lump sum. You make payments on the entire amount beginning the month after you take out the loan. Unlike HELOCs, which typically have variable interest rates, home equity loans come with fixed interest rates, so your payment will stay the same for the life of the loan.

Learn More: Fixed-Rate HELOCs - A Cross Between HELOCs and Home Equity Loans

Even though you’re borrowing against your equity, you’ll still have to qualify for the loan. Here are some common HELOC requirements:

• Sufficient equity for the amount you want to borrow
• A debt-to-income ratio within the lender’s limits, usually 43% or less, although some lenders allow as high as 50%
• A credit score of 640 or higher, depending on the lender, and a positive credit history

Understanding the pros and cons of HELOCs will help you make an informed decision.

Pros

• Borrow only what you need when you need it
• Only make payments only on the amount you withdraw
• Typically higher credit limits and lower interest rates than credit cards
• Interest might be tax-deductible³

Cons

• Closing costs are similar to those of a first mortgage
• Transaction and membership fees, in some cases
• Generally have variable rates, which means payments can increase
• Defaulting on the loan may result in foreclosure