What you need to know before you get a Home Equity Line of Credit (HELOC)
How I wish I knew then what I know now about a home equity line of credit (HELOC), also called Equity Line.
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If you are thinking about getting a Home Equity line of credit, “just in case”, read this and thank me later. A word of warning: a Home Equity Line of Credit is not play money and it’s not a savings account. It’s a potential debt.
The greatest advantage of a line of credit is that it usually has a much lower rate of interest than a credit card. A line of credit is a useful product if you have a business – A business line of credit is a financial instrument typically used for an organization’s short-term working capital needs, such as inventory purchases, future project costs, or company payroll. Lines of credit are mainly to help even out the organization’s cash flow.
Then there is the personal line of credit, often called a HELOC or Home Equity Line of Credit. This type of line of credit is secured by the equity in your house. (This is the type I got, more of that later). Another name for it could be “second mortgage”, but nobody at the bank ever uses that term.
A HELOC is an amount – can be quite high – depending on the value of your home and the equity you have in it (the difference between the value of your house and the amount left to pay on your mortgage). The line of credit I got was $30,000.
When you are approved for a HELOC, the amount of money is placed in an account where you can access it on demand and the beauty of it is you only pay interest on the money you take out from the account. Up to there, it’s very interesting.
So, should you get HELOC? If you do keep the following in mind
First, you need to know about a HELOC is that the bank or other lending institution can recall the amount borrowed at any time. If your financial situation has gone south, or if they deem the risk too high, they can ask for repayment of the principal, failing which, they can seize your house and sell it. Ouch! Some lenders have also recalled all the lines of credit just before themselves were about to declare bankruptcy. Remember banks and lenders are in it for themvelves. If you anticipate to need some funds, starting an emergency fund might be a better way to finance your project. So does getting a second job or starting an online business.
A second characteristic of a line of credit is that the interest rate is usually a variable type. This means that if the interest rates go down, your rate goes down and if the interest rates go up, so does the interest on your line of credit. This can also hurt badly.
A third thing to remember about a line of credit is that unless you are 1) savvy about how they work and 2) financially disciplined, it is very tempting to only pay the interest or continue to withdraw funds for non essentials.
This is how the line of credit I got hurt me financially. I was not educated about how they work, and I took a laissez-faire approach to my finances. So I only paid the interest. When I look at it in retrospect, I know I could have paid a good chunk of the principal if I had put my mind, and my money to it.
The amount owed had to be paid when I sold the house and since it was a good chunk, it left me with much less money than I had expected from the sale.
Because I used the money responsibly, I don’t regret getting a line of credit. It allowed me to go to University full time for 3 years (as a single parent) and start a career I totally loved.
What I would do differently today is I would put every penny available to pay back the loan – because the money you use from a line of credit is in plain words a loan, or a second mortgage and it needs to be paid eventually.
Bottom line advice about a HELOC.
If you get a HELOC, be clear on the reason why you are getting it and have a detailed written re-payment plan before you even get the funds. Inform yourself by reading a couple of books on the subject. This one is only one dollar. Remember that unforeseen events can happen: divorce, job loss, illness and be prepared. Don’t use a HELOC to supplement your cash flow. Starting a side business is a safer way to increase your income
I hope you find some useful information with my posts. If so, please let me know and share it with your network and on social media.