If you’re a homeowner, chances are high that your home has a market value higher than what you owe on your mortgage. The difference between your home’s market value and what you owe on your mortgage balance is known as your home equity, and it’s a resource that homeowners can use to their advantage in a variety of different situations.
By taking out a home equity line of credit, or HELOC, you can unlock the equity in your home to achieve financial goals in other areas of your life. Here, we’ll cover, when, how, and if you should take out a HELOC.
What is a HELOC?
Before answering the questions of when, how and if you should get a HELOC, it’s important to understand what it is and how it works. Simply put, a HELOC is a type of loan that uses your home as collateral. HELOCs are a line of revolving, variable interest credit that you can borrow against repeatedly over time. Unlike a home equity loan, which provides a lump sum amount at the time you take out the loan at a fixed interest rate, with a HELOC you have the option to borrow what you need—only paying back the amount you’ve withdrawn at a variable interest rate.
The way a HELOC works is different from other types of loans, as it is broken down into two periods: the draw period and the repayment period.
The draw period usually lasts between five to 15 years, with 10 years being the most common.
- During this period, you can withdraw money in increments as you need it—for example, Amplify’s HELOCs have a $4,000 minimum draw—up to the limit.
- In the draw period, the only payments due are the minimum interest payments due on the balance, although you can make additional payments on the principal in Texas without penalty. This will reduce your monthly payment amount when you get to the next stage of your HELOC: the repayment period.
When the draw period ends, the HELOC enters the repayment period, which is usually 10 years.
- Once repayment starts, no more funds can be drawn on your HELOC and you must start making monthly payments on the principal and interest.
- Payments can increase significantly when the repayment period starts, so borrowers should have a repayment plan in place.
When Can You Get a HELOC?
The first requirement when it comes to getting a HELOC is owning your home. After that, the rules for when you can get a HELOC—and there are several rules specific to Texas—are a bit more structured. At a high level, you’re eligible for a HELOC if:
- You don’t use more than 80% of your home’s equity. For instance, if your home is currently worth $400,000 and you owe $150,000 on the mortgage, you can borrow up to a maximum of $170,000. (The math looks like this: ($400,000 x .80) - $150,000 = $170,000.) To make the most of a HELOC, it’s ideal to take out the loan when home values are high.
- You only use your primary home as collateral. You can only take out a HELOC on the home where you live. Investment properties or second homes aren’t eligible.
- You only take out one home equity loan every 12 months. In Texas, you’re only allowed to access your home equity once a year, even if you repay a previous home equity loan or cash-out refinance.
How Do You Get a HELOC?
As with any loan, you’ll need to choose a lender and fill out an application to get a HELOC. However, there are certain factors you’ll want to consider before choosing a lender, such as the interest rate on the loan, as well as closing costs. Once you choose a lender, you’ll go through the application process, which might be a little different with every lender, but the basics remain the same:
- Step 1: Sign & Provide Documents. You’ll have to sign a few documents and provide others to confirm your income and debt history.
- Step 2: Loan Approval. Approval can take up to a week, and processing can take an additional 20 to 30 days.
- Step 3: Waiting Period. Once the HELOC is approved and processed, the state of Texas dictates a period of 12 days before closing and three days after.
- Step 4: Receive Funds. Once you’ve closed, you receive your funds four days later.
Should You Get a HELOC?
When and how you can get a HELOC are relatively simple questions to answer, but the more difficult question is: Should you get a HELOC? While the answer will depend on your specific financial situation, here are a few questions to consider in your decision-making process:
- What do you need the HELOC for? The traditional reason to take out a HELOC for most homeowners is to finance home renovations. However, there are non-traditional uses that can also help you achieve your financial goals, such as an emergency fund, college fund, or for debt consolidation.
- Is the HELOC interest rate lower than other options? While HELOCs usually offer lower interest rates than other types of personal loans, it only makes sense to use a HELOC if the interest rate is lower than other financing options available to you.
- How do you feel about a variable interest rate? As mentioned above, HELOCs generally have relatively low interest rates, but those rates can change based on economic conditions. Before you take out a HELOC, ask the lender for the lowest and highest interest rates you could possibly pay, as well as how often the interest rate will adjust.
- Are you comfortable using your home as collateral? This is a key consideration. As opposed to credit cards or other types of personal loans, if you’re unable to make payments on a HELOC, you risk losing your home.
Make the Choice That’s Right for You
As a homeowner in Texas, you have the option to tap into your home’s equity to fulfill your financial goals. When it’s best to take out a HELOC will depend on the market value of your home and your outstanding mortgage balance. How you take out the HELOC will depend the lender you choose. But the ultimate question—whether you should leverage a HELOC to reach your goals—will depend entirely on your personal financial situation. Do your research, talk to an expert, and consider your current financial standings to ensure you make the choice that’s right for you.