What is a HELOC (and Does it Make Sense for Me)?

A Home Equity Line of Credit – or HELOC – is a line of credit which is secured by your home’s equity (aka the value accrued in your home). A HELOC provides homeowners with a revolving credit line in which they can use for large expenses, or to consolidate and pay off higher-interest debt on other loans, such as credit cards.

When you take out a HELOC, you’re borrowing against the available equity in your home, and using your home as collateral in the case that you default against the amount you borrow. Just like a standard line of credit, you must repay your outstanding balance to replenish the full line of credit available to you to borrow. 

This means you can borrow against your HELOC time and time again, spending as little or as much as you need throughout your draw period (which is typically 10 years). However, once you reach the end of that draw period, you must begin repayment (including interest) or you could risk losing your home.

How to Qualify for a HELOC

Like any type of loan or financing, borrowers must first qualify to take out a HELOC. While qualifications can vary by lender, homeowners should generally meet the following criteria for the best chances of qualifying for a HELOC:

• At least 15% – 20% equity in your home: Once the overall value of your home exceeds how much you owe on your mortgage, you have built up equity, which a HELOC lets you borrow against. To qualify for a HELOC, lenders will require you to have at least 15% -20% equity in your home. 
• Less than 50% Debt-to-Income (DTI) Ratio: to prove to lenders that you are responsible with debt and less of a risk, you’ll want to have a DTI less than 50%. To determine your DTI ratio, add up all of your monthly debt payments, including your mortgage and other loans, and divide it by your total monthly income. This number, as a percentage, is your overall DTI ratio. 
• A credit score of 620 or higher: When it comes to your credit score, the higher the better to ensure you land the best interest rates on the cash you’re borrowing. While it’s recommended that your score is 620 or above, borrowers with a credit score of 700 not only have the highest chance of approval, but will also secure the best interest rates. 

When a HELOC May Make Sense…

If you need to access an ongoing amount of cash (like for a series of projects), or are looking to consolidate your debt to a lower interest rate, a HELOC could be a great option since it has a lower interest rate than some other common types of loans, and the interest could even be tax deductible. 

And, because HELOCs enable you to draw cash from the account as needed, they can be a more flexible option than a traditional home equity loan when it comes to accessing your home’s equity. 

… and When to Consider Alternatives

While HELOCs can be a great solution for homeowners looking for a line of credit to fund ongoing projects and even to pay off debt, they’re not always the best option. If you’re unsure if you’ll be able to pay off the cash you’re borrowing, you may want to consider seeking alternative financing, since HELOCs do come with a risk of losing your home if you can’t pay back what you borrowed. 

Additionally, if you don’t have a lot of equity built up in your home, you may want to wait to open up a HELOC until you can accrue more equity to access a larger amount of cash. As with any financial decision, always research your options and consult with a trusted financial advisor or lender to ensure you’re making the right decision for your personal financial goals.