By Lee Sherman
For most people, their home is their most valuable asset. It not only provides shelter but also can be a source of short-term cash. Instead of using a home equity loan or credit card to pay for home improvements, medical bills, or consolidating debt, homeowners should consider a home equity line of credit (HELOC).
What is a HELOC?
A home equity line of credit (HELOC), is a loan that is secured by the equity you have in your home. HELOCs can be used for just about anything on your wish list just like a credit card but remember, if you default on the loan payments, you are in serious danger of losing your home (foreclosure). With that caveat out of the way, there are many advantages to borrowing from a HELOC.
HELOCs vs home equity loans
While they sound similar and are both based on the borrower’s equity in the home, a HELOC is not the same as a home equity loan. Home equity loans come with fixed payments and a fixed interest rate for the term of the loan, whereas HELOCs are revolving credit lines (similar to a credit card) that come with variable interest rates and minimum payment amounts. Both HELOCs and home equity loans are sometimes called second mortgages and are commonly used when the value of a home has increased over time and the borrower has paid down a significant portion of the first mortgage. Home equity loans work similarly to a fixed rate mortgage. Like any loan, it is subject to a number of factors including credit history and current credit score.
With a HELOC, a borrower is able to withdraw funds on a regular basis as long as they continue to make interest payments. Perhaps, the biggest difference between a HELOC and a home equity loan is that with a home equity loan the borrower receives the loan all at once, while a HELOC lets the borrower tap into the credit line as needed. With a HELOC you are only required to pay off what you havespent each month plus whatever interest you owe, not the entire amount. The amount borrowed can change which will also affect the minimum that needs to be paid each month.
HELOCs first became popular in the US in the early 2000’s but they became a casualty of the financial crisis of 2008 when many of the major lenders including Bank of America, Countrywide Financial, Citigroup, JP Morgan Chase, National City Mortgage, Washington Mutual and Wells Fargo informed borrowers they were freezing, reducing, suspending, rescinding, or otherwise restricting the loans. The Trump tax reform of 2017 damaged them further, mandating that the interest would no longer be tax deductible unless the loan is specifically used for substantial home improvement.
Today’s HELOCs resemble home equity loans more than ever, in that, depending on the lender, they can come with low or even fixed interest rates, low closing costs, other discounts, and tax advantages over other types of loans. With home prices soaring and interest rates at all-time lows, it just might be time for a resurgence of interest in HELOCs, even with the new restrictions placed on them by our current tax code.
Lee Sherman is a contributing writer to MyPerfectFinancialAdvisor, the premier matchmaker between investors and advisors. Lee is an experienced journalist and editor with over 30 years of expertise with a significant history of writing in the personal finance and technology arenas.