According to the CBC News, 3 million Canadians have home equity line of credit but most of them do not exactly know how it actually works. They do not have a thorough understanding of the deal they have entered. In effect, they struggle to pay for it and end up drowning into even more debt.
How does home equity and line of credit work?
Also being confused with second mortgage, a home equity line of credit or HELOC is a revolving source of fund which uses your home as a collateral. Just like any other loan, you and your bank, credit union, or private mortgage lender must agree on the amount you can borrow and the number of years you have to pay it back. In contrast to other loans, you have the freedom to not use the borrowed money all at once. In this case, it works like a credit card since you can get money as you need it. Your payments goes back into your line of credit, which means you can borrow it again.
HELOCs have a variable interest rate. When interest rates rise or drop, the interest rate of your HELOC will follow suit. Most of the time, your lender will start with a bench marked interest rate for you, but it changes depending on your financial and credit situation.
What are the pros and cons of home equity line of credit?
To determine whether or not you need a HELOC, you must first understand its risks and benefits.
One of the advantages of HELOCs is that it can give you a large amount of money that you can access any time. You can also borrow as little or as much money you want as long as it does not exceed your credit limit. HELOCs are also flexible compared to other loans since you can repay your debt at any time you want. Lastly, you have the freedom to use the money you borrowed in anything. You can use it to consolidate your debts, fund the renovation of your house, or even pay for your child’s education.
However, no matter how good HELOCs may seem, it also has a few disadvantages. Having funds available at any time makes it tempting for you to access it whenever you want. With this, you should be disciplined and responsible enough in handling your finances and paying back your debt. Another thing is that, HELOCs have a variable interest rate. You must adjust and be able to pay it whether it increases or not. Last but not the least, you have to remember that you use your home as a collateral for HELOC. Your lender will eventually get hold of your home once you default on your payments.
How should I qualify for a HELOC?
The application process and requirements for a HELOC is pretty much the same with any other loans. You must have an outstanding or at least a fair credit score, sufficient source of income, and an acceptable percentage of debt to income ratio.
When you apply for HELOCs in banks, you have to pass their stress tests. They also have a more rigid standards as they don’t want to lend money to high risk borrowers. There are also other documents that may be required from you depending on the lender. They may ask you to run through your mortgage payments, balance, and terms among others.
Another option that you have is to explore offers from private mortgage lenders in Ontario. They are not required to conduct stress tests and are more laid back on your credit profile.
Before you start your application for a HELOC, you have to be sure that you are ready, mentally and financially. Assess your savings or emergency funds. Devise a plan on how you will utilize your loan. Ask financial experts on how you could have a HELOC to your advantage.