What is a Home Equity Line of Credit?

A home equity line of credit is a great way to get your hands on some cash if you happen to be a homeowner. However, it can also be a good way to lose your home if you abuse the line of credit you are given because your home is technically the collateral. People often take out home equity lines of credit when they need more cash than what they might be able to secure through a low cost personal loan. Before you get excited thinking that you can borrow a large sum of money just because you are a homeowner, you should read up on exactly  how these loans work. Being a homeowner doesn’t exactly guarantee you’ll get loan approval.

No Equity Equals No Loan

Before a lender will grant you a home equity line of credit, they’ll need to find out if you have equity in your home. If you’re unfamiliar with the term “equity,” it is basically just referring to how much you owe on your home in comparison to how much it is worth. If you owe less on your home than it is worth, that’s how much equity you have in your home. If you owe more on your home than it is worth, then you have negative equity in your home, which means you probably won’t be able to secure a home equity loan. So before you apply, you should have a pretty good idea of what your house is worth as well as how much you owe on the balance.

How Much Credit Can You Get?

According to the Federal Reserve Board, most lenders determine the amount of credit to extend by taking a percentage of the appraised value of a home and subtracting from that the amount owed. So for example, if your house was worth $100,000 and you only owed $40,000 on the balance, you might be able to get a line of credit for $35,000 — assuming your lender went with 75 percent of the appraised value. However, this method will vary from lender to lender. It’s best to shop around before settling on one lender so you can ensure that you get the best deal. A stated income home equity loan generally works the same way, although you may not be able to get approved for as much money because the lender is taking a risk by taking your word on how much you earn rather than getting documentation from you.

The Length of  Home Equity Line of Credit

Most lenders will extend the line of credit to you for about 10 years, and the money will likely be available inside a home equity account. You’ll probably be given checks or a credit card to use just for drawing money out of this account as needed. Additionally, you may be required to keep money in the account at all times. Many lenders will not permit you to completely wipe out your line of credit.

Downsides to Home Equity Loans

One of the main drawbacks to most home equity loans is that they tend to come with variable rather than fixed interest rates. This is bad because the amount you pay back in interest could change at any time, and this could also affect the amount of your monthly payments. Also, when time is up on your line of credit, you’ll be asked to repay in full whatever you still owe. If you can’t do this, you’ll need to try to refinance your credit line or make some other arrangements. The scariest thing about this is that if you can’t find a way to repay the money, there’s a good chance you’ll lose your house because it is the collateral. Try to make sure that you don’t owe more than you can pay back on your line of credit when the loan runs out.