The Federal Reserve just cut rates for the first time this year and has indicated it’ll make more reductions in the months ahead. One of the side effects? Home equity line of credit rates will likely be trending down.
If you’ve been thinking about tapping into your home’s equity, here’s what you need to know.
HOME EQUITY LINE OF CREDIT VS. HOME EQUITY LOAN
They sound like twins, but home equity lines of credit (also known as HELOCs) and home equity loans (also known as HELs) are not. “These are two different animals, and nobody ever really talks about that,” says Lisa Gill, an expert in credit scores and reports for Consumer Reports.
A home equity line of credit provides a source of money — a credit line — that you can draw from during what’s known as the “draw period” (usually 5-10 years). You pay interest only on the amount you use. Unlike a fixed-rate home equity loan, the interest rate on a home equity line of credit is variable, making budgeting for payments a bit tricky.
There’s the credit score factor, too. “Let’s say you get a $50,000 home equity line of credit. That shows up as a $50,000 credit card [on your credit report] where you’re using 100% of the credit,” says Gill. “It will drag your score down, and it will only start to change incrementally as you begin to pay it off.”
A home equity loan, on the other hand, is an installment loan and is treated more like a car loan or mortgage when it comes to your credit report. “They put it into a different category,” adds Gill. “It does not impact your credit availability percentage. It will also not impact your income-to-credit ratio.”
Keep in mind that with both a home equity line of credit and a home equity loan, your home is used as collateral, so there’s always risk involved if you can’t repay.
HOW TO SHOP AS HOME EQUITY LOAN RATES DROP
With home equity line of credit rates dipping, now might feel like the time to dive in – but there are a few key steps you’ll need to take as you shop around.
First and foremost, check your credit report. A high credit score is a must-have for approval. You can get credit reports for free, each week at AnnualCreditReport.com. If you find an error that’s dragging your score down, you’ll want to clean that up before you apply.
Then, it’s time to shop around for the best home equity line of credit rates. A good starting place is your local bank or and credit union. Some people want to be able to sit down and speak one-on-one with their lender and ask questions. Not your vibe? There are tons of online options — you can compare rates and apply without ever leaving your couch.
No matter the route you choose, you’ll want to ensure you have a solid understanding of the terms and associated costs, particularly regarding fees. “Don’t just stop at the headline offer,” stresses Annie Garland, a CFP with WealthClarity. “For example, some lenders advertise ‘$0 annual fee,’ which sounds great, but others that do charge a small annual fee may offset it with a lower interest rate.”
ALREADY HAVE ONE?
If you’ve been watching home equity line of credit rates dip, and you already have one, you might be wondering if you should refinance. As Gill points out, rates will likely keep falling and refinancing isn’t cheap (we’re talking potentially thousands in fees). “It could be a lot of money, a lot of paperwork and a lot of time,” she adds. “Just make sure that you really will benefit.”
THE BOTTOM LINE
With home equity line of credit rates trending downward, it could be a good time to take action – just make sure you’re smart about it. “Realize you’re getting yourself further into debt,” Gill stresses. “It’s not play money. It really should be used for the benefit of the home and emergency money.”
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