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How a home equity credit line works

Published on November 20, 2020 | Jay Brennan

A home equity credit line, often called a HECL or HELOC, is a revolving line of credit that is secured by a lien placed against your home. Often, customers ask how a HECL differs from its sister, the home equity loan. When you get a HECL, you are approved to use it to a specific dollar amount, whereas a home equity loan will provide you with a check for the total lump sum when you close, and you will have a certain number of months to pay it back.

In many ways, a HECL is like a credit card – you use what you need, as you need it, and make monthly payments. Your balance will go up and down, as it does when you use a credit card. This makes a HECL often the better choice to fund projects that may not have a fixed price tag or have cost spread out over time, such as home improvements and college. Additionally, it allows quick access to funds if they are needed, at little or no cost to you until they are needed.

Like home equity loans, you can usually obtain a HECL at no upfront cost. There may be a pre-payment penalty if paid and closed within a certain period, usually two to four years, and possibly an annual fee, check with your lender for specific details.   While most mortgages and home equity loans have fixed rates, most HECL’s are based on a margin above or below the prime rate. Typically, that will represent the lowest rate at any given time, but the rates can change if prime increases.

Some banks, like Webster, may offer a fixed rate conversion option, which allows a customer with a used balance the ability to convert to a fixed rate comparable with whatever the fixed loan rates are at that time. See a banker for more details to see if that is right for you. Most HECL’s are structured in two parts: The draw period and the repayment period.

The Draw Period

During this time, a typical borrower would be able to draw from their line up to the amount they were approved for as they see fit, and their minimum payment would typically only be the interest owed on the used balance, with nothing owed on the unused portion of the line.  A borrower should be able to pay towards any principal at any time during the draw period, but they are typically not required to. Also, since a HECL is revolving, a borrower should be able to pay the balance to $0 without a penalty as long as the line remains open for possible use in the future. As principal is re-paid, those funds become available again for the borrower to draw if needed.

The Repayment Period

If there is a balance at the end of the draw period, most banks, like Webster, will provide a repayment period. While a borrower can no longer draw on the line, they will have time to pay that balance, which is often 15-20 years. While the rate likely would still vary with prime, the monthly payment would now be principal and interest, following an amortization schedule like most mortgages and home equities.   It is not uncommon, however, for a borrower that has reached the end of their draw period to apply for a new HECL to get a fresh draw period. See you banker to figure out your best options.

Rates are at historic lows

It’s no secret that rates for all home lending products like HECL’s, but also loans and mortgages, are near historic lows. NOW is the time to see if any of the available home lending solutions might be the right fit for you, including home purchase programs. Learn more about HELOC and compare interest rates or contact your local Webster branch to see what solutions might be right for you and your family. All loans and lines are subject to credit approval.

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