(April 6th,
2007)
Did
You Know? |
 A
2005 study done by Harvard University shows that more
than 80% of people over the age of 65 in USA own their
own homes worth a total combined net worth of $3.95 Trillion.
This $3.95 Trillion is almost 1/3rd of all Senior's wealth
in America.
Home equity
lines of credit allowed these seniors to own multile properties,
as well as create additional monthly incomes. Seniors
who own their own homes have a lot more net worth than
seniors who rent. |
Using the equity built up in your home, you
can get lots of credit made available to you from many lenders,
in whatever possible way you want to use it. Furthermore, the
interest rate at which you achieve this home equity line of
credit is usually a lot lower than credit card debt & other
sources of financing. Also, the interest payments that you make
are tax-deductible under certain circumstances. In this article,
we will look at:
 What's
a Home Equity Line of Credit?
A home equity line of credit is a line of
credit borrowed with your home as collateral. Therefore, if
you fail to make payments on the borrowed credit amount, you
will forfeit your home as it has been pledged as collateral.
Because your home is probably the biggest asset you will ever
own, most people use a home equity line of credit to pay for
large education bills, home improvement costs and unexpected
big medical bills. A home equity line of credit is not used
for your day to day living expenses, that's just stupid.
Once you apply for a home equity line of credit,
the lender will assess your credit limit (the most amount of
credit that you can borrow at any given point). Your lender
will set a percentage point in calculating the credit limit.
For example, take the following hypothetical situation:
| Full
Value of House (Appraised) |
$250,000 |
| Percentage
(set by lender) |
85% |
| Amount
of Appraised Loan: |
$212,500 |
| Less: Balance
owing on Mortgage |
$(115,000) |
| Available
Qualified Credit Limit |
$97,500 |
Apart from this, the credit lender will also
look at your current short term and long term debt. If your
debt burden is high, this means you will be eligible for a lower
credit limit. However if you do not have any debt, then you
could be potentially eligible for all of this $97,500 credit
limit.
You are allowed to withdraw money from your
home equity line of credit at any time you want, provided you
are approved for one. Some lenders will require you to keep
a minimum balance in the line of credit every month. Withdrawals
can be made using your credit card.
Annual
Percentage Rate (APR) & Closing Rate of the Home Equity
Line of Credit
Did
You Know? |
| Your
Annual Percentage Rate (APR) is based on your current credit
score and Combined Loan to Value Ratio. The formula for
Combined Loan to Value Ratio (CLTV) =Amount of Money Being
Borrowed / Total Appraised Value of Potential Property.
For example, if a borrower wants to borrow $120,000 while
the full appraised value of his property is $200,000, then
the Combined Loan to Value Ratio (CLTV) is $120,000 / $200,000
= 60% |
Choose a credit lender that charges the lowest
APR (Annual Percentage Rate). APR is the cost of borrowing credit
expressed in percentage form, over the annual life. For example,
some lenders will offer you an APR of 12% while others will
offer you 15%. Obviously, the lower the APR, the lower the cost
of borrowing credit. Furthermore, look at the closing costs
of the home equity line of credit.
Closing costs include any attorney fees for
drafting the line of credit agreement, fees for filing the line
of credit, title search fees, insurance and any taxes payable.
Note: The APR does not incorporate any of these
closing costs. These closing costs are separate and do not have
any relationship with the APR.
Interest
Rates on Home Equity Lines of Credit
In this section, we will differentiate between
variable and fixed interest rates. A variable interest rate
changes periodically and fluctuates with any ups and downs on
a public Index. Examples of a Public Index include the US Treasury
Bill, the prime rate published by the Federal Reserve, etc.
When you apply for a home equity line of credit, the lender
will specify the interest rate you will pay (based on the US
Treasury Bill Index) plus a percentage of 2-3 points. This percentage
of 2-3 points is known as the "Margin"
If you do take out a home equity line of credit,
make sure you know how variably does the Prime Rate fluctuate,
which Index it is based on, its highest point and any fluctuations
in the Margin. Also note that some lines of credit have a cap
or ceiling on how high the interest rates can rise. Some lenders
will also let you transfer from a variable interest rate to
a fixed interest rate (an interest rate that never changes over
the life of the home equity line of credit).
Cost
of setting up a home equity line of credit
Setting up a home equity line of credit is
like that of buying a new house (and signing a new mortgage
application). Some of the costs include:
- Property appraisal fee (to appraise the
current value of your home)
- Credit application fee (which is NOT refundable
if you get turned down for credit)
- Attorney fees for drafting & filing
the line of credit agreement, title search fees, insurance
and any taxes payable.
- Transaction fee charged on everytime you
make a withdrawal from your line of credit
- Some home equity lines of credit are also
subject to annual maintenance & administration fees. Check
your agreement and with your lender to find out more about
this.
Repayment
of Home Equity Loans
How you repay back your home equity line of
credit depends on the type of lender you borrow from. Some lenders
do not accept monthly payments (towards the principal amount),
and will want 100% of their money back upon maturity of the
loan. For example, if you take out a $100,000 home equity line
of credit on January 1st, 2005 and it matures on Dec 31st, 2010,
this means you will have to repay back the entire $100,000 on
Dec 31st, 2010. Ofcoure, you will have to make interest payments
on these loans, based on the Annual Percentage Rate (APR) and
the Prime Rate.
Many smart consumers like to pay off their
home equity lines of credit as fast as possible. For example,
if you took out $50,000 to purchase an expensive car, you might
want to set aside $1000 every month so as to be able to fully
repay back your loan upon maturity. You don't want the maturity
date to expire and you NOT having the $50,000 cash available
to fully pay off your loan, that would be a total disaster!
If you choose to pay your entire $50,000 original principal
balance upon maturity, this is known as a "balloon payment."
If you cannot make this balloon payment on your loan, the lender
will simply confiscate your home from you.
What happens if you sell your home, while
still owing money on the home equity line of credit? If you
do so, you will have to fully repay back the loan immediately.
Therefore, do NOT take out a home equity line of credit if you
are planning to sell your home in the near future.
Disclosure
of Home Equity Loan Terms
Under the Federal Truth in Lending Act, all
home equity line of credit lenders are required to disclose
to you the important terms of the loan. Some of these terms
include:
- Annual Percentage Rate
- Closing costs including attorney fees for
drafting & filing the line of credit agreement, title
search fees, insurance and any taxes payable.
- Terms of payment (whether it will be a
one time balloon payment or variable monthly payments)
- Idea about the Interest Rate charged, which
Index it is based on and the Margin.
Cancelling
a Home Equity Line of Credit Loan
If you put your principal residence as collateral
against a home equity line of credit loan, the Federal Truth
in Lending Act gives you 3 days from the date your account is
opened to revoke your decision and cancel the home equity line
of credit loan. You must inform the credit lender by writing
an official letter. Within these 3 days, you will also be refunded
any closing costs for which you might have paid, including appraisal
costs and any application (attorney) fees. |
