Homeowners

Need Cash but Have a Low Mortgage Rate? Consider a HELOC

Many homeowners need cash for a major home repair, renovation, or other expense. But if they locked in a low mortgage rate a few years ago, they may hesitate to refinance their mortgage or sell their property.

“Many homeowners locked in very low mortgage rates during the pandemic, and today’s rates are much higher,” said Casey TeVault, a real estate agent and owner of Casey Buys Houses, a private real estate acquisitions company in Chino, Calif.

Fortunately, homeowners who don’t want to part with their low mortgage rates have other options. They may want to consider a Home Equity Line of Credit (HELOC).

A HELOC lets eligible homeowners borrow against the equity in their properties without replacing their existing mortgage.

Understanding how a HELOC works, what it will cost you, and how repayment affects your budget can help you decide whether it’s the right fit.

What is a HELOC?

A HELOC is a revolving line of credit secured by a home. Unlike other types of home equity loans that provide a lump sum, a HELOC gives borrowers access to an approved credit limit they can draw from as needed.

Home equity is the difference between a property’s current market value and the outstanding mortgage balance. How much a homeowner can borrow depends on available equity, existing debts, credit history, income, and lender requirements.

These loans are often used to fund home improvements and renovations, although they can be used for a variety of purposes, such as paying for college tuition or medical bills.

For homeowners with low mortgage rates, a key advantage is that a HELOC generally leaves the original mortgage intact.

Meanwhile, a cash-out refinance replaces the existing mortgage with a larger loan. The borrower pockets the difference in cash. However, this option may apply a higher interest rate to the new loan.

How does a HELOC work?

Most HELOCs have two phases: a draw period and a repayment period.

During the draw period, often five to 10 years, borrowers can withdraw funds up to their credit limit. Generally, you can take money out and repay it during this time.

Interest generally applies only to the amount borrowed, not the entire available credit line. Some lenders allow interest-only payments during this period.

When the draw period ends, borrowers generally can no longer withdraw funds and must repay the outstanding balance according to the loan terms. Payments may increase when principal repayment begins.

HELOCs often have lower interest rates than credit cards, but the rate is often variable and may change over time. Borrowers should compare actual offers and remember that their home serves as collateral.

These loans may be useful when expenses arise over time and you want flexibility in how much you borrow. A home equity loan may be worth comparing if you need a specific amount upfront and prefer a lump sum with a set repayment schedule.

Before choosing a HELOC, compare the interest rates, maximum rate cap, draw and repayment periods, annual fees, closing costs, appraisal fees, and any early-closure penalties.

“Most importantly, they should make sure they can afford the payments if rates rise or payments increase when the draw period ends,” said TeVault.

How to get a HELOC

Lenders generally evaluate a homeowner’s equity, credit history, income, and existing debt obligations. They may verify income and employment, review credit reports, and require an appraisal or another property valuation.

Generally, borrowers need a credit score of at least 640, a debt-to-income ratio of 43%, and at least 15% to 20% equity in their homes to secure a HELOC. (Debt-to-income ratios are how much debt you have compared to how much you earn.)

“Lenders typically seek customers with a lot of equity in their home, plus a good credit history and sufficient income to service their debt,” TeVault said.

Requirements and borrowing limits vary by lender.

Consider how much you need to borrow, whether you need access to funds over time, and the size of the monthly payments you can comfortably afford.

What are the risks of a HELOC?

Many HELOCs have variable interest rates, which means borrowing costs and monthly payments may change as rates rise or fall. That means your monthly payments could increase when the draw period ends and principal repayment begins.

Another thing to consider is a HELOC adds a separate debt obligation to your existing mortgage. Since your home serves as collateral, failing to make payments could ultimately put it at risk of foreclosure.

“Your home is the collateral,” said TeVault. “So, borrow only what you need and have a clear repayment plan before taking out a HELOC.”

For homeowners who need cash but want to preserve a low mortgage rate, a HELOC may be worth considering. The right choice depends on the purpose of the borrowing, the total cost, and whether payments will remain affordable if rates or repayment obligations increase.