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Home Equity Basics
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home equity
What home equity debt is

A home equity loan is a one-time lump sum that is paid off over a set amount of time, with a fixed interest rate and the same payments each month. Once you get the money, you cannot borrow further from the loan. Bankrate surveys home equity lenders and is a good source for current rates.

A home equity line of credit, or HELOC, works more like a credit card because it has a revolving balance. A HELOC allows you to borrow up to a certain amount for the life of the loan -- a time limit set by the lender. During that time, you can withdraw money as you need it. As you pay off the principal, you can use the credit again, like a credit card.

Example

Let's say you have a $10,000 line of credit. You borrow $5,000 to pay for new kitchen cabinets. At that point, you owe the $5,000 you borrowed, and you have $5,000 remaining in your credit line, meaning that you could borrow another $5,000.

Instead of borrowing more from the line of credit, you pay back $3,000. At this point, you still owe $2,000, and you have $8,000 in available credit.

Example: HELOC
Line of credit:$10,000
Amount borrowed:-$5,000
Available credit line:$5,000
Amount paid back:+$3,000
Available credit line:$8,000

A HELOC gives you more flexibility than a fixed-rate home equity loan. It also is possible to remain in debt with a home equity loan, paying only interest and not paying down principal.

A line of credit has a variable interest rate that fluctuates over the life of the loan. Payments vary depending on the interest rate, the amount owed and whether the credit line is in the draw period or the repayment period.

During the equity line's draw period, you can borrow against it and the minimum monthly payments cover only the interest, although you can elect to pay principal.

During the repayment period, you can't add new debt and must repay the balance over the remaining life of the loan.

The draw period often is five or 10 years, and the repayment period typically is 10 or 15 years. Those are generalizations, and each lender can set its own draw and repayment periods. Lenders have been known to have draw periods of nine years, six months, and repayment periods of 20 years. Bankrate surveys home equity line of credit lenders for their current rates.

A line of credit is accessed by check, credit card or electronic transfer ordered by phone. Lenders often require you to take an initial advance when you set up the loan, withdraw a minimum amount each time you dip into it and keep a minimum amount outstanding.

With either a home equity loan or a line of credit, you have to pay off the balance when you sell the house.

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Tap HELOC to cover college costs?

Dear Dr. Don, I have a home equity line of credit, or HELOC, for $110,000 that expires in September 2016. I do not have a mortgage. I won't need to use the home equity line until 2015 when my children head to college. I'd... Read more

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