What’s a HELOC?

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HELOC, pronounced HEE-lock, is the US financial industry abbreviation for home equity line of credit. It is a loan with a maximum amount based on the equity available in the borrower’s home. Equity is the difference between a home’s value and the total amount owed. A HELOC is different from a home equity loan because it is a line of credit rather than a lump sum advance at one time.

There are both advantages and disadvantages to a HELOC. The biggest advantage for most borrowers is the tax-deductible interest for most people who itemize when filing their federal income tax. Creditors also don’t view this line of credit in the same way as a second mortgage in terms of overall debt. However, a HELOC is not advantageous in all circumstances.

The disadvantages of a HELOC include variable interest rates, which are almost always imposed. This means that, in most situations, the interest rate associated with the line of credit will increase over time. How much and how often it increases depends on the lender’s terms and the borrower’s credit rating. Also, many times, the loan only requires regular repayment of interest, which means that the principal will never decrease if the loan pays only the minimum payment due each month.

A HELOC has a degree of flexibility that other loans do not, including access to a maximum amount without actually using it and varying degrees of repayment terms. Although it is different from a home equity loan or a second mortgage, it is still a loan secured by the borrower’s home as collateral. Therefore, failure to comply with the agreed terms can, and often does, lead to foreclosure. Before accepting this type of loan as a way to finance a major purchase or build affordable credit, a homeowner is best advised to consult with a financial advisor or loan professional.

Smart Asset.

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