Log InJoin 

What Is A Home Equity Line Of Credit Loan?

What Is A Home Equity Line Of Credit Loan?

A home equity line of credit loan, also known as a HELOC, allows property owners to use equity built up in their home for different purposes. Using a HELOC however isn't a simple as whipping out a credit card and paying for goods or services. You must consider the advantages and disadvantages, tax implications and how best to use the money being made available via the loan. A home equity line of credit can be a great way to manage finances but it can also cause problems if not used correctly and to your advantage.

What is a HELOC?

Owning property is unlike any other tangible asset which consumers are likely to purchase in their lifetimes. This is primarily because it is one of the few real assets which doesn't depreciate over time. Any other consumer item, from a dishwasher to close to an automobile, lose value after purchase. Not only do homes appreciate in value but they also build equity as the outstanding mortgage is paid down with each consecutive monthly payment. A home equity line of credit is normally provided by the same financial institution which issued the mortgage. Also, the home is used as collateral in case of loan default.

Uses for a HELOC

For the most part, home equity lines of credit can be used for anything the home owner chooses unless there are certain strings attached by the lender. This is less common for HELOC's but do tend to happen for home equity loans. Lines of credit and equity loans are slightly different as loans tend to be limited to remodeling and debt consolidation. The most common uses for a home equity line of credit are the aforementioned remodeling and debt consolidation as well as automobile purchases, small business financing and paying for education. Most purchases made using a HELOC are of the variety where a large purchase is being made which is inappropriate for a credit card.

HELOC Advantages

The primary advantage of a home equity line of credit is a lower interest rate than what is normally provided using a credit card or other type of personal or short-term loan. Many home equity lines of credit offer interest rates between 5% and 7% which is significantly lower than the 15% to 25% provided by other types of financing. Not only is the interest rate lower but it's also tax-deductible which can lower a filers adjusted gross income lessening their tax burden. Another advantage when used for debt consolidation, is taking a half-dozen or so high-interest rate credit card payments and combining it into a single low interest monthly payment. This allows consumers to save money on interest while making only one payment per month when paying off debt.

HELOC Disadvantages

One important disadvantage to consider when applying for a HELOC is that your personal residence will be used as collateral to secure the loan. This is to protect the financial institution from possible default especially when it is common for these types of loans to involve $30,000-$60,000 in available credit. Another disadvantage is for consumers who view a HELOC as a piggy bank to use for inconsequential or frivolous purchases that have no real advantage. Without altering the underlying behavior which led to excessive debt or financial difficulties to begin with, a home equity line of credit will only exacerbate the situation leading default and subsequent foreclosure.

Image by: Warren