HELOC rates remain very reasonable and property values in the US are appreciating all over. Significantly, homeowners realize that they have access to many financial benefits such as tax deductions and flexible low-interest home equity credit lines. People who do not own a home do not enjoy these privileges.
This year, experts are projecting HELOC’s interest rates starts to increase. Therefore, it makes sense to shop with the best HELOC lenders online while the rates are still low historically.
How HELOC Rates Work
Unlike many mortgages, HELOCs are a kind of adjustable-rate mortgages. HELOC rates have two components: a set base rate (“margin”) and a fluctuating rate (“index”). Each month the HELOC lender will calculate your payment based on your current balance and the combination of these two components to determine your rate.
The lender will use your credit score and the amount of equity you have in your home as the basis of the margin for your HELOC.
As soon as you have your HELOC lender, they will run a single report from all three major credit bureaus, namely: Equifax, TransUnion and Experian. Basically, they will merge your credit history that they have extracted from the three sources. This report will incorporate all your past credit history and your credit scores from each bureau.
High Credit Score = Lower HELOC Margin
Most lenders usually pick the average of the three scores although the conservative ones might use the lowest of the three scores. The rule is, the higher your credit score, the lower your HELOC margin will be. Negative information such as late payments or credit problems can cause you to have a higher margin. In some cases, applicants lose their eligibility for a HELOC because of the severity of their derogatory credit history.
You can compute your home equity by dividing the total outstanding loans by your home’s value. Take note that most lenders would want to see that your total loans do not exceed 90% of your home’s value. The lower this percentage is, the lower your HELOC margin will be – and vice versa.
So, looking at this principle, your margin can practically be as low as zero. But, it can also be as high as a few percentage points if you had credit issues and very low equity.
Here are other things you might want to know about getting the best HELOC rates:
If you want to get a good interest rate, repayment plan and low closing costs, you have to do some ‘legwork’ with your hands. This means you need to compare offers by as many different companies as you can. You can do this now via the Internet. Many borrowers automatically choose the company they’ve worked with previously – but they may not always get the best deal.
Most HELOCs use the prime rate as a basis; it’s now easy to compare companies. In fact, you might not even need to use a mortgage broker. Do not give in to the temptation of settling for the first few offers because a small detail can make a big difference in the long run. A tiny increase in the APR, for example, can mean thousands of additional dollars over the life of the HELOC.
Once you’ve short-listed your HELOC lenders, you’ll want to compare their offers on the following:
- Margin. Some lenders add higher margins more than others based on your credit profile and home equity. This is the most significant factor in determining your HELOC rate.
- Rates on fixed-rate advance options. This is the second most important factor for your HELOC rate and this can be as varied as the number of lenders.
- Maximum lifetime rate. HELOCs will have a restriction to ensure that Prime plus Margin cannot go over a certain amount at any time. This is your protection should Prime were to rise dramatically over the life of the HELOC.
- Interest only against fully amortized payment. HELOC payment terms will vary. Some will allow you to pay just the interest due on the outstanding balance while others will ask for principal plus interest payments. The lender that follows the latter can sometimes amortize the payment over 10 or 20 years. This will make the payment materially higher overall.
- Draw period. A draw period is the length of time you can draw on your HELOC and it can vary among lenders. A longer draw period is advantageous if you plan to keep the home and the HELOC for a longer term. These period runs for about 10 years and don’t differ drastically from lender to lender, but it’s still good to ask.
- Repayment period. This sets how long you have to pay back whatever funds you drew from the HELOC. Similar to draw periods, this is usually standard at 20 years but again, you should check. You have to get the longest possible time or at least enough time according to your planned time in the home.
- Annual fees. HELOCs work in the same way as credit cards in that you can use and pay off the funds anytime. However, for the lender, this will require more overhead than traditional mortgages so they often charge an annual fee like credit cards. The fee may be insignificant but do compare because you might choose one that happens to charge the highest among all.
- Early termination fee. Many HELOC lenders charge this fee if the borrower close the HELOC within a certain number of years. Not only will the actual fee matter to you, but find out how many years you need to hold the HELOC before they waive this fee.
Solidify Your Finances
While HELOC lenders primarily base their decisions on your home equity level, they also look at your overall financial picture. These elements are important considerations to them in deciding to approve or disapprove your application. Your credit score and debt level vis-à-vis your income will affect your rate and even your approval.
Raising your credit scores and lowering your debt by paying some of them off can make a big difference (debt consolidation will probably not make any difference). Even reducing your overhead can turn to huge savings in the long run.
It’s a good idea to check your credit reports from the three major credit bureaus we mentioned earlier before you apply for your HELOC. Sometimes, there are erroneous postings or old “zombie” debts on your credit record that may be pulling your scores downward.
Don't get a new credit card or take on new debt before applying for a HELOC. They would lower your credit scores and cause your rates to go even higher.
Build up Enough Equity
Your equity in your home has a direct impact on your HELOC. The higher your equity, the bigger the home equity line and also influences the rate they will give you. The more equity you build up, the more it will appear that you have less debt against your home. This will make you look better in the eyes of your lenders.
If you do not have an idea of how much equity you have, try a simple method. Find an online estimate of the worth of your home and then subtract the balance you owe on your mortgage.
Most HELOC lenders won’t want the home equity line and your outstanding mortgage debt to go past 80% of your home’s value.
Consider a Conversion Clause
Some HELOCs will allow borrowers to convert from a variable interest rate to a fixed one during the draw period. This will work to your advantage during periods of rising interest rates because you can convert and lock into a lower one. Conversely, some lenders will also allow you to revert back to a variable rate if the interest rates fall again.
Generally, your APR on the fixed-rate portion of your credit line will be higher than the variable APR on the non-fixed portion. The payments on the fixed part will be higher because you will pay for both the interest and principal – just as you would on a fixed-rate loan.