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We usually associate house-based lending — mortgages, home equity loans — with a fixed interest rate and stable payments. But home equity lines of credit (HELOCs) are different: The interest rates on HELOCs are typically variable, tracking with the prime interest rate — plus an additional percentage, or margin, your lender puts on.
As with a credit card, the lender has some leeway with the original interest rate it offers you on the HELOC. Obtaining a good rate will largely depend on your credit score, credit history and overall financial strength.
- A HELOC is a way to tap into your home's equity — the portion of your home your own outright.Similar to a credit card, a HELOC lets you borrow from a credit line gradually, as the need arises, up to a specified credit limit and pay the money back in installments. Unlike a credit card, however, HELOCs are broken up into two distinct periods– a draw period and a repayment period. During the draw period, you can borrow funds and pay only interest. During the repayment period, you can no longer borrow any more money and must repay both principal and interest.
10 tips to get the best HELOC rate
1. Maintain good credit
Having a good credit score is one of the key ways to obtain a competitive interest rate when applying for HELOC. A lender will consider your FICO credit score to determine the interest rate.
A credit score of 700 or above will most likely qualify you for the best interest rates, though homeowners with a score of 621 to 699 might still get approved.
There are steps you can take to help improve your credit score when applying for a HELOC. Some of the quickest actions you can take include checking your credit report and disputing any errors, keeping your credit card balances low and making all credit payments on time.
It is also important to be very careful about opening new lines of credit. Your credit score declines slightly every time you open another account.
Takeaway: Having a higher credit score will help you get lower rates, so do what you can to raise it before you apply.
2. Have enough equity
The amount of equity (outright ownership stake) you have in your home determines the size of your home equity line of credit, and it influences the HELOC rate you’re able to get. The more equity you have, the better you look to a lender and the less likely that you’re overloaded with debt against your home.
Having a decent amount of equity also means that you’ll have a lower combined loan-to-value ratio, or CLTV. The CLTV is determined by adding up your current loan balance and your desired line of credit and then dividing by the appraised value of your home. For HELOCs, lenders typically prefer CLTVs below 85 percent.
“Having a significant amount of equity in your home can generally be viewed as lower risk by financial institutions. The more equity you have, the more you own, and the less you owe to your lender,” says Gerald Haynes, mortgage product manager for Georgia’s Own Credit Union in Atlanta. “This can be viewed as lower risk because the borrower has more of a financial stake in the home and is less likely to default on mortgage payments.”
To get an idea of how much home equity you have, find an online estimate for the value of your home and subtract the balance owed on your mortgage. Here’s an example:
- $250,000 (home value) – $170,000 = $80,000 (amount of equity in dollars)
- $80,000 / $250,000 (home value) = 0.32 (32 percent equity)
Takeaway: You’ll likely find lower HELOC rates if you have substantial equity built up in your home.
3. Consider different types of lenders
While your current lender may offer you a good deal on a HELOC, don’t stop there. Compare estimates from other players, including national banks, smaller community banks, credit unions and online mortgage lenders. Each type of lender has its own advantages.
For instance, online lenders generally have lower operating costs, which can allow them to offer you lower interest rates, while local banks and credit unions may have a better understanding of your local market and offer you more personalized service — especially if you already do business at that institution. To get the best HELOC rate, try to get at least three quotes when considering your options.
Takeaway: Your local bank or credit union is a great place to start looking for a HELOC, but it’s always best to compare rates from at least a few lenders to make sure you’re getting the most competitive terms.
4. Understand introductory rates
When you think you’ve found a great HELOC rate, find out how long it will last and how it might change over time. A HELOC typically comes with an adjustable rate during the initial draw period that fluctuates in sync with the prime rate. However, some lenders may offer you a competitive introductory rate, sometimes called a teaser rate.
“Some lenders offer very attractive introductory rates for the first six to 12 months only to increase it meaningfully after that period,” says Vikram Gupta, head of home equity for PNC Bank.
Find out how long your introductory rate will last and what your rate will be after that period ends — especially if you’re planning to withdraw funds over several years. A lower rate during a yearlong introductory period may not be worth it if your rate skyrockets after.
Takeaway: Know how and when your HELOC interest rate might change during the draw and repayment periods.
5. Look for rate caps
Some HELOCs offer rate caps as a safeguard against rising interest rates. If you select a HELOC with a low rate cap, you’re protected from paying more than that maximum, even if the prime rate spikes. If there is no cap, you run the risk of your interest rate pushing your monthly payment beyond what you can afford.
Takeaway: A low rate cap protects you against a market of rising interest rates.
6. Factor in fees
While obtaining a low interest rate is important, the fees associated with a HELOC also play a big factor in your final cost.
Some lenders charge upfront fees, third-party fees or an annual fee. They may also require you to draw a minimum amount of credit to avoid a fee or charge inactivity fees, which can negate any benefit you may receive from a low HELOC rate.
Get documentation for each quote you receive including the associated interest and all rate fees so you can compare your options side by side. It’s important to evaluate the total, long-term cost of each loan offer. And when evaluating costs, remember, some loans–even with fees–may still end up having a lower overall cost.
For instance, some lenders may charge a fee to lock in a fixed interest rate but you could pay less out of pocket over the life of the loan with a fixed rate rather than a variable rate HELOC.
Takeaway: When comparing lenders be sure to consider any relevant fees, as well as the interest rate, in order to get a true picture of the total cost of the loan. Remember, some loans with fees may still end up costing you less overall.
7. Watch out for balloon payments
Getting a low monthly rate may seem like the most important factor when choosing a HELOC, but sometimes those low rates come at the expense of a balloon payment. A HELOC with a balloon payment requires you to pay off your remaining balance in a lump sum at the end of your term — a potentially huge payment if you’re not prepared for it.
“Balloon payments are often associated with loans that have a shorter repayment period, where a portion of the borrowed amount is due as a lump-sum payment at the end of the loan term,” says Haynes. “Applicants should be aware that balloon payments can be risky because they require a large payment at the end of the loan term, which can be challenging to manage.”
If you are unable to make the balloon payment for some reason, you may be forced to refinance the loan or even sell your property entirely in order to cover the payment.
Takeaway: A low rate may not be worth it if the trade-off is a huge balloon payment at the end of your term.
8. Choose shorter draw and repayment periods
Many lenders have only one set of HELOC terms, but some lenders may let you choose the length of your draw period and the repayment period. Opting for a shorter repayment term can decrease the amount of interest you pay.
In addition, you may score a better interest rate if you select a shorter repayment timeline. Check with different lenders to see if changing the length of the draw or repayment periods is a possibility.
Takeaway: Shorter draw periods and repayment periods pose less risk to the lender; because of this, you may be offered lower interest rates if you have the option to choose shorter terms.
9. Look for fixed-rate options
More and more lenders are offering the option to convert some or all of your HELOC balance into a fixed-rate loan for a set period of time, sometimes without a fee. This is a good option if you want to lock in the interest rate without worrying about potential fluctuations in the market.
“Fixing the rate protects the consumer from rate increases and payment increases,” says Mark Worthington, manager with online lender Churchill Mortgage.
If you feel interest rates are going to rise before you have the ability to pay off the HELOC, then obtaining a fixed rate can provide some comfort and security, says Worthington.
However, a longer period with a fixed interest rate could mean a higher interest rate. And the strategy could backfire, if interest rates start dramatically declining.
Takeaway: If interest rates are low, fixed-rate options during the draw period could be a selling point. Even if the lock comes with a fee, it may be worth it to avoid future rising rates.
10. Take advantage of discounts
If you have an existing relationship with a bank or credit union, you may qualify for member discounts on your HELOC rate. Many lenders also offer rate discounts for setting up automatic payments.
You should still talk to multiple lenders, though, as the best deal isn’t always with a bank you already have a relationship with.
Takeaway: Autopay or member discounts are possible ways to lower the APR on your HELOC, so look for ways to save wherever you can.
If the central bank sticks to the vow of higher rates for longer, then borrowing costs would remain elevated for some time to come.— Mark Hamrick, Bankrate Senior Economic Analyst
HELOC rate predictions
For the past few years, amid the red-hot housing market, many homeowners have enjoyed significant appreciation in the value of their homes. This development has resulted in more opportunity to borrow based on rising home values and corresponding equity.
Unfortunately, at the same time, average interest rates charged on HELOCs — around 8 percent as of early May — have soared to their highest levels since 2007 as the Federal Reserve has sought to tamp down inflation via interest rate hikes, says Bankrate senior economic analyst and Washington Bureau Chief Mark Hamrick. “If the Federal Reserve ends its rate-raising campaign, then it is likely that we’ll see rates at their peak, before coming down,” says Hamrick. “If the central bank sticks to the vow of higher rates for longer, then borrowing costs would remain elevated for some time to come.”
Churchill Mortgage’s Worthington inclines towards the latter view, foreseeing continued increases for quite some time to come. “Overall, I see rate hikes going through the end of 2023 and into the first quarter of 2024. By the middle of the first quarter of 2024, I anticipate rates stabilizing and into the second quarter, I foresee [the] prime starting to fall,” he says.
Bottom line on getting the best HELOC rate
A HELOC can be a useful way to cover large or unexpected expenses. Even with the continued rate hikes, in many cases, HELOCs will still be a better bet than credit cards and even home equity loans (though the interest-rate gap between the two has closed in the last year). But in the current economic environment, it’s more important than ever to do your due diligence before choosing a lender.
As you shop around, remember that there are steps you can take to reduce the amount of interest you pay over the life of the loan including considering different types of lenders, opting for shorter draw periods, locking in rate caps and taking advantage of discounts.
It’s also a good idea to work on improving your credit score in order to qualify for the best offers, ideally several months before you apply. That’s a strategy for all seasons, no matter what the current interest-rate climate is like.