Home Equity Line of Credit

Question

Thanks! I think there’s some key “point” that we’re missing after watching as many YT videos we can shake a stick at. How is one paid off? How is it measured? – thanks good people

In: Other

Answer 1

Normally when you buy a home, you pay some amount of the home as a “down payment” and a bank covers the rest of it (which is your mortgage) that you pay back over time, so that as time progresses you own a larger and larger portion of the house

HELOC works by letting you borrow against the portion that you already own – this the “home equity”. It’s usually capped at whatever equity you have in the home.

It’s called a “line of credit” because it doesn’t have a fixed amount or term – you can withdraw as much as you need (up to the limit) and pay back as much as you want. So if the heater breaks and you suddenly need $10k, you can use the HELOC for that, and pay it all back next month or make the minimum payment and spend years paying it back.

It’s a tool for people who have owned their homes for awhile to borrow money under favorable terms, usually for use on house repairs and upgrades. It’s a good interest rate because it’s low risk for the bank – they already own your house thanks to the mortgage.

Here’s an example – you buy a $500k house and put $100k down (so you borrow $400k)

By year 10, you have paid off $150k of the mortgage. So you have $250) in equity and owe the bank $250k.

The bank says, ok, I can loan you up to $150k and use the house as collateral for that, since I was originally OK loaning you $400k. If you don’t pay it back, the bank can foreclose on your house, just like the mortgage.

You generally can’t qualify for a HELOC until you’ve paid off a fair amount of the house – the bank doesn’t want to lend you more than the original mortgage amount (mostly because foreclosure is a pain and likely results in a reduced sale price, so they don’t want to lend you $500k for a $500k house and then be stuck selling it for $450k if you skip town – thus the 20% conventional down payment for favorable mortgage terms). so you can’t put $100k down on the $500k house then immediately take out a $100k HELOC to pay yourself back.