Home Equity Credit Line (HELOC) is a fundraising tool that converts capital in your home into spendable funds. It works just like a credit card. You can rent up to the approved limits if necessary. Unlike credit cards, however, HELOC includes two major phases: the draw period and the repayment period. Together, these two periods can last up to 30 years.
What is the HELOC draw period?
Home Equity Credit Line (HELOC) is a fundraising tool that converts capital in your home into spendable funds. It works just like a credit card. You can rent up to the approved limits if necessary. Unlike credit cards, however, HELOC includes two major phases: the draw period and the repayment period. Together, these two periods can last up to 30 years.
The HELOC draw period is the first phase of the loan. During this window you can take out the money as often as you wish. Normally you don’t have to repay everything you borrowed during the draw period. Instead, you can make a minimum monthly payment. In fact, in many cases, you simply pay interest on what you borrow at different rates.
Sometimes HELOC has a lower introductory rate for a certain period, such as six months. Some HELOC lenders can also convert some or all of the balance into a fixed interest rate.
How does the drawing period in HELOC work?
During the draw, you will be given the set line amount to rent based on the fairness of your home. You can borrow up to the limit and pay it back, then borrow more money multiple times until the draw period ends. This setup makes Helocs ideal for projects with uncertain final costs or with long time frames.
Let’s say you have established a $30,000 credit line and took out $20,000 at a 9% interest rate and remodeled your kitchen. During the draw, you will need to pay monthly interest on the amount you borrow, or $150 in this scenario.
What happens if the kitchen remodeling is beyond budget? If you are still in a draw period, you can borrow more money up to the limit. For example, if you borrow another $5,000, your minimum monthly payment will rise to $187.50.
How to make the most of your HELOC draw period
Here are the best practices to consider to maximize the value of HELOC and use it wisely.
- Develop HELOC’s financial strategies to identify a specific project, cost, or purchase.
- When starting a HELOC, check if the lender requires a minimum withdrawal advance. Next, establish a schedule for future draws.
- Keep a close eye on your balance frequently to make sure you’re not spending more than you can afford to pay it off.
- Be aware of current interest rates. If they drop significantly, consider locking the interest rate on HELOC’s outstanding balance. Not all lenders offer rate freezes at HELOC, so you need to check the terms of the contract.
Generally, there is no limit to the number of times you can draw in HELOC. And if you repay your outstanding balance, you can replenish the funds available on your credit line and borrow those funds again if necessary.
Things you should not do during the HELOC draw period
There are also some actions to consider avoiding to prevent HELOC debt from growing beyond your ability to effectively manage and comfortably repay.
- Avoid withdrawing significantly more money than you need for a particular purchase or expense.
- Please do not make minimum monthly payments at HELOC during the draw period. This only covers the interest costs to pay and does not help reduce your main balance.
- It is best to deduct money from your HELOC for purchases or projects that do not improve your financial profile, or to provide some kind of financial benefit, such as a discretionary trip or luxury purchase.
What is the HELOC repayment period?
Once the draw period ends, HELOC will transition to the repayment period. At this point you can no longer oppose the credit line and start paying off what you borrowed. In many cases, you make monthly payments, including both principal and interest, over a period of time, for a long period of around 20 years.
You can repay HELOC before the draw period ends, but be aware of early repayment penalty fees. If the HELOC balance is already zero at the end of the draw period, your account will normally close automatically.
As you will only be charged for unpaid balances at the end of the draw period, your monthly repayment amount will depend on the amount you borrow and the interest rate on Heloc. Don’t forget that Helocs usually has a variety of rates, so payments can increase each month.
How are payments calculated during the repayment period?
Once the repayment period enters, HELOC payments are calculated on the same amortization schedule as used for regular mortgages.
Let’s say you owe $25,000 from HELOC. Suppose the interest rate is 9% and the repayment schedule is 10 years. In that case, your principal and interest will be $317 a month.
However, interest rates vary for HELOC. If the fee increases to 10%, payments will rise to $330 per month. Here’s a breakdown of how monthly payments on your $25,000 HELOC balance differ.
| Repayment period | interest rate | Monthly payment |
|---|---|---|
| 10 years | 9% | $317 |
| 10 years | 11% | $344 |
| 15 years | 9% | $254 |
| 15 years | 11% | $284 |
| 20 years | 9% | $225 |
| 20 years | 11% | $258 |
What to do before the drawing period of Heloc ends
As Heloc approaches the end of the draw period, take stock of your loan and prepare what comes next. The end date of the draw period is usually listed on the HELOC statement. Most lenders will notify clients at least six months before the end of the draw period.
John Giles, Senior Vice President of Housing Lending Strategy and Support at TD Bank, is a good idea to ask to contact lenders.
- When will the loan move to repayment (if for any reason the statement doesn’t say)?
- Will the interest rate be reset when the repayment stage begins?
- Will my repayment interest rate be fixed or fluctuate?
- What are the changes in monthly payments?
What to do when the Heloc drawing period ends
If you think you won’t be able to cover your monthly bill during the repayment period, there are a few ways to refinance your HELOC.
- Open a new HELOC. Some lenders can open a new HELOC and roll some or all of the old balance. You will need to pay interest on your balance, but you will be returning to the credit draw period. This means you can avoid paying principal. This delays the inevitable, but starting a new credit line with a new draw period may make the most immediate sense.
- Pay Helock with a Home Equity Loan. You will also be attracted to your stock, but a home equity loan is different from a credit line. You will pay the money with one lump sum and immediately begin repayment at a fixed interest rate. However, if you go this route, you can increase the amount of interest overall.
- Refinance your HELOC and mortgage with a new loan. You might consider refinancing as interest rates appear to be declining. It’s about combining both your credit line and mortgage into a new mortgage. This is a more tedious option, but it could be a good way to streamline all your debts into a single, big loan. If you can afford it, consider taking a 15- or 20-year mortgage to reduce your total interest amount.
- Find out how to refinance your cash out. Cash-out refinance is the process of taking out a new mortgage for more than you currently owe your home and receiving cash differences. You can use that extra money to repay the Heloc balance. Refinancing cash-outs usually only makes sense if you can get a lower interest rate.
- I’ll take out a personal loan. If you qualify for a sufficiently sufficient personal loan, you can use it to refinance Helock. This option is best reserved for borrowers who get a favorable rate with excellent credits. Otherwise, you will only bear the cost of one debt load.
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