Imagine you had a credit card that allowed you to charge a lot of bills – we’re even talking about the numbers 5, 6, but we had to pay back a minimum amount each month for 10 years.
Dream, is that so? No, it’s roughly like HeLoc. Specify a specific repayment plan when opening this home equity credit line. This means that for the first few years you will have to pay interest on the money you borrowed rather than the principal.
However, Helocs is not just an interest forever. This approach can make borrowing very affordable at first, but you can be shocked later when you need to start paying for the principal. Therefore, it is important to understand that you are signing.
What is an interest-only HELOC?
Home Equity Line (HELOC) like a credit card has a rotational balance. However, unlike credit cards, it does not exist indefinitely – like a regular loan, there is a set time pan. “Interest-only HELOC” is essentially a phrase that refers to a credit line available to borrowers during the first few years of HELOC. During this stage, known as the draw period, you can freely receive funds from your credit line and pay only interest in return. The draw period is usually five, 10, or 15 years, with 10 being the most common.
Once the draw period ends, the HELOC repayment period begins, usually lasting 10-20 years. You can no longer borrow money. Instead, you will need to repay your outstanding balance, like a mortgage. Currently, the minimum monthly payment includes both principal and interest, and the payment covers remaining interest and is large enough to repay the loan by the end of the loan term.
How does an interest-only HELOC work?
Interest-only HELOC allows you to pay the principal until the draw period expires. It’s an interest to pay. Use this formula to calculate your monthly payments.
Let’s say you withdraw $15,000 for your credit line, and your annual interest rate is 8%. Regular Heloc interest-only payments amount to $100 per month ($15,000 x .08 ÷ 12).
But all good things end. For example, if you have an interest-only home equity line with a 20-year term and a 10-year draw, the loan will be self-advocated after 10 years. Over the remaining 10 years of repayment, you will not oppose your credit line and will no longer be able to repay it alone.
What is the difference between traditional HELOC and interest-only HELOC?
Essentially, they are almost the same now. Interest only is becoming a standard feature of the home equity credit line.
That wasn’t always the case. Originally, HELOC repayments during the draw period included both principal and profit, as did mortgages and other loans. Today, some of these “traditional” Herocks remain. Their lenders may not like the profit-only concept or may limit options to borrowers with a stronger credit profile.
However, these traditions are less common. Most HELOCs are either “interest only” or “interest only” during the draw period. They give borrowers the option of making payments that cover only interest on their withdrawn funds, unlike minimum monthly payments on credit cards. Of course, you can pay more at any time, and many personal financial advisors think you should: to avoid overexpenditures, make your debt easier to manage, and to avoid sticker shocks of principal and profit combinations when the draw period ends.
Pros and cons of interest-only HELOC
Using these lines of credit has its advantages and disadvantages.
When does interest-only HELOC make sense?
The disadvantages are substantial, so it’s important to think about whether the interest-only route works for you. Like other HELOCs, if you have good credits (700 plus FICO score) and a substantial amount of home equity built, that might be a good idea. Essentially, the greater the interest in ownership, the more you borrow and the more your creditworthy you can secure competitive interest rates.
More specifically, interest-only HELOC makes sense if you:
- It’s currently cash strap but you can comfortably afford to buy bigger payments later, as you’re hoping to increase your household income in the future
- I think interest rates are flowing over the long term. If it gets lowered later, it may reduce the bite when you need to start repayment of both your principal and interest
- Plan to move before the HELOC draw period ends. This strategy helps you avoid avoiding monthly principal and interest payments at all, showing what some borrowers are doing with adjustable interest mortgages. You have to settle down when selling, but perhaps your sales revenue will cover the balance of your HELOC.
Do I need to avoid making profit-only HELOCs?
Interest-only HELOCs are meaningless in some circumstances and can even be a dangerous decision if they are not financially prepared for the repayment structure. Below are some of the scenarios where an interest-only HELOC may not suit you.
Limited Home Equity
If you don’t have a lot of fairness in your home, that’s not an option for you. All types of HELOCs rely primarily on the fairness of your home. The percentage varies by lender, but most claim a minimum stock interest of 15-20%. They also allow you to rent up to 80 or 90% of your home’s value.
Low credit score
Don’t forget this fundraising mantra. The higher your credit score, the lower your interest rate. Heloc Lenders saves the best offers for people with scores in the “very good” range. You may still be able to get a home equity credit line with perfect credits, but the interest rates will be higher. This means you will have to pay hundreds, if not thousands, of dollars throughout the loan term.
In any case, HELOCs for poor credit individuals will come with higher interest rates, limited loan amounts and shortened repayment terms.
Repayment concerns
You should also avoid interest-only HELOCs if you are not sure you can make a bigger payment after the repayment period arrives or if interest rates fluctuate. Find out how long the loan draw period will be and plan how you can continue paying off your HELOC after your monthly payments increase. This could be several years later depending on the conditions of the HELOC and requires careful financial planning.
What is the interest-only HELOC alternative?
Even if you can, not everyone is comfortable taking out HELOCs. Here are a few options.
Home Equity Loan
Home Equity Loans are similar to HELOC in that you are borrowing equity in your home. However, instead of getting a line of credit that can be reused upon repayment, you will get a lump sum payment. Your fees are fixed and monthly payments have been revised. Home equity loan fees tend to be a little lower than HELOC.
good: You know the amount of money you need, and you want to get it all at once.
Please avoid it. You may not be sure you think you need to use your home equity multiple times or/or if you ultimately need to use it.
Personal loan
You can get personal loans from a bank, credit union, or online lender. Your credit score mainly determines what your interest rate will be. If you can get a loan at a low interest rate, it could be a good alternative to hocking your home. If your personal loan interest rate is much higher than the interest rate you get from HELOC, personal loans may not be a big option.
good: You have good credit (but not so much home equity), and you need the funds quickly.
Please avoid it. Your credits may use improvements. Or you need a decades-long repayment period.
Credit Card
Credit cards are a quick way to get the funds you need without immersing in the fairness of your home. Many cards have 0% interest on purchases or balance transfers for a set period. This is great if you’re approaching a large expense or need to pay off your debt. But be careful. Once the intro period ends, interest rates can jump, making it an expensive option if you can’t pay back your balance right away.
good: If you need quick access to cash, you can plan to pay it back immediately and get an introductory rate of 0%.
Please avoid it. I think I might balance it for a while as double-digit interest rates on credit cards can rise rapidly and become debt mushrooms.
Cash-out refinance
A cash-out refinance replaces your current mortgage with another, larger mortgage. You will receive the difference in the lump sum payment. Like HELOC, the amount of extra cash is based on the interests of the stocks in your home. Refinance rates are often comparable to major mortgage rates and are lower than home equity loans and HELOC rates. Also, if you refinance at a lower interest rate than your current mortgage, your monthly payments may also be lower.
good: You have at least 20% capital in your home, and your current mortgage rate is higher than today’s average rate. I also like the idea that you have a single large debt to pay off (with mortgages vs. and Home Equity Loan or HELOC).
Please avoid it. Get a mortgage when the fee is low and refinance is significantly higher. Or you don’t want to go through the entire mortgage application process again for another loan closure fee/mortgage application process.
What should I do when the drawing period for Heloc is over?
Here is a step-by-step guide on what to do when the HELOC drawing period ends.
- Look at the balance of your credit line a few months ago. Decide how much your monthly payments are and how you will need to take that into consideration and adjust your budget.
- Once the draw period is over, your monthly payments will be updated to the new amount.
- If your new (high) monthly payments are financially charged, it’s better to reach out to the lender rather than stop paying. Lenders may offer options such as increasing the length of the repayment period. This reduces monthly payments.
You can also consider refinancing HELOC itself.
The bottom row of Helock, interest only
During your interest-only HELOC initial term, your monthly payments will be relatively low. Because you just pay interest. However, once the draw period has ended, the principal must begin paying. This means that your monthly payments will increase significantly.
Interest-only HELOCs can make borrowing more affordable. It can even happen now, not later, and not later, your plans. But remember, you live in the time you borrowed with those low payments. As they increase, it can mean sticker shock, as inevitably do. So, make sure your budget is ready, even before you sign these HELOC agreements.
