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WHAT YOU SHOULD KNOW ABOUT EQUITY LINES OF CREDIT
More and more lenders are offering home equity lines of credit. By using the equity in your home, you may qualify for a sizable amount of credit, available for use when and how you please, at an interest rate that is relatively low. Furthermore, under the tax law--depending on your specific situation--you may be allowed to deduct the interest because the debt is secured by your home.
If you are in the market for credit, a home equity plan may be right for you. Or perhaps another form of credit would be better. Before making a decision, you should weigh carefully the costs of a home equity line against the benefits. Shop for the credit terms that best meet your borrowing needs without posing undue financial risk. And remember, failure to repay the amounts you've borrowed, plus interest, could mean the loss of your home.
What is a home equity line of credit?
A home equity line of credit is a form of revolving credit in which your home serves as collateral. Because the home is likely to be a consumer's largest asset, many homeowners use their credit lines only for major items such as education, home improvements, or medical bills and not for day-to-day expenses.
With a home equity line, you will be approved for a specific amount of credit--your credit limit, the maximum amount you may borrow at any one time under the plan. Many lenders set the credit limit on a home equity line by taking a percentage (say, 75 percent) of the home's appraised value and subtracting from that the balance owed on the existing mortgage. For example,
Appraised Value of Home $ 100,000
Percentage 75%
Percentage of Appraised Value = $ 75,000
Less Balance Owed on Mortgage - $ 40,000
In determining your actual credit limit, the lender will also consider your ability to repay, by looking at your income, debts, and other financial obligations as well as your credit history.
Many home equity plans set a fixed period during which you can borrow money, such as 10 years. At the end of this "draw period," you may be allowed to renew the credit line. If your plan does not allow renewals, you will not be able to borrow additional money once the period has ended. Some plans may call for payment in full of any outstanding balance at the end of the period. Others may allow repayment over a fixed period (the "repayment period"), for example, 10 years.
Once approved for a home equity line of credit, you will most likely be able to borrow up to your credit limit whenever you want. Typically, you will use special checks to draw on your line. Under some plans, borrowers can use a credit card or other means to draw on the line.
There may be limitations on how you use the line. Some plans may require you to borrow a minimum amount each time you draw on the line (for example, ) and to keep a minimum amount outstanding. Some plans may also require that you take an initial advance when the line is set up.
What should you look for when shopping for a plan?
If you decide to apply for a home equity line of credit, look for the plan that best meets your particular needs. Read the credit agreement carefully, and examine the terms and conditions of various plans, including the annual percentage rate (APR) and the costs of establishing the plan. The APR for a home equity line is based on the interest rate alone and will not reflect the closing costs and other fees and charges, so you'll need to compare these costs, as well as the APRs, among lenders.
Interest rate charges and related plan features
Home equity lines of credit typically involve variable rather than fixed interest rates. The variable rate must be based on a publicly available index (such as the prime rate published in some major daily newspapers or a U.S. Treasury bill rate); the interest rate for borrowing under the home equity line changes, mirroring fluctuations in the value of the index. Most lenders cite the interest rate you will pay as the value of the index at a particular time plus a "margin," such as 2 percentage points. Because the cost of borrowing is tied directly to the value of the index, it is important to find out which index is used, how often the value of the index changes, and how high it has risen in the past as well as the amount of the margin.
Lenders sometimes offer a temporarily discounted interest rate for home equity lines--a rate that is unusually low and may last for only an introductory period, such as 6 months.
Variable-rate plans secured by a dwelling must, by law, have a ceiling (or cap) on how much your interest rate may increase over the life of the plan. Some variable-rate plans limit how much your payment may increase and how low your interest rate may fall if interest rates drop.
Some lenders allow you to convert from a variable interest rate to a fixed rate during the life of the plan, or to convert all or a portion of your line to a fixed-term installment loan.
Plans generally permit the lender to freeze or reduce your credit line under certain circumstances. For example, some variable-rate plans may not allow you to draw additional funds during a period in which the interest rate reaches the cap.
Costs of establishing and maintaining a home equity line
Many of the costs of setting up a home equity line of credit are similar to those you pay when you buy a home. For example,
A fee for a property appraisal to estimate the value of your home
An application fee, which may not be refunded if you are turned down for credit
Up-front charges, such as one or more points (one point equals 1 percent of the credit limit)
Closing costs, including fees for attorneys, title search, and mortgage preparation and filing; property and title insurance; and taxes.
In addition, you may be subject to certain fees during the plan period, such as annual membership or maintenance fees and a transaction fee every time you draw on the credit line.
You could find yourself paying hundreds of dollars to establish the plan. If you were to draw only a small amount against your credit line, those initial charges would substantially increase the cost of the funds borrowed. On the other hand, because the lender's risk is lower than for other forms of credit, as your home serves as collateral, annual percentage rates for home equity lines are generally lower than rates for other types of credit. The interest you save could offset the costs of establishing and maintaining the line. Moreover, some lenders waive some or all of the closing costs.
How will you repay your home equity plan?
Before entering into a plan, consider how you will pay back the money you borrow. Some plans set minimum payments that cover a portion of the principal (the amount you borrow) plus accrued interest. But (unlike with the typical installment loan) the portion that goes toward principal may not be enough to repay the principal by the end of the term. Other plans may allow payment of interest alone during the life of the plan, which means that you pay nothing toward the principal. If you borrow $ 100,000, you will owe that amount when the plan ends.
Regardless of the minimum required payment, you may choose to pay more, and many lenders offer a choice of payment options. Many consumers choose to pay down the principal regularly as they do with other loans. For example, if you use your line to buy a boat, you may want to pay it off as you would a typical boat loan.
Whatever your payment arrangements during the life of the plan--whether you pay some, a little, or none of the principal amount of the loan--when the plan ends you may have to pay the entire balance owed, all at once. You must be prepared to make this "balloon payment" by refinancing it with the lender, by obtaining a loan from another lender, or by some other means. If you are unable to make the balloon payment, you could lose your home.
If your plan has a variable interest rate, your monthly payments may change. Assume, for example, that you borrow $ 100,000 under a plan that calls for interest-only payments. At a 10 percent interest rate, your monthly payments would be . If the rate rises over time to 15 percent, your monthly payments will increase to . Similarly, if you are making payments that cover interest plus some portion of the principal, your monthly payments may increase, unless your agreement calls for keeping payments the same throughout the plan period.
If you sell your home, you will probably be required to pay off your home equity line in full immediately. If you are likely to sell your home in the near future, consider whether it makes sense to pay the up-front costs of setting up a line of credit. Also keep in mind that renting your home may be prohibited under the terms of your agreement.
Lines of credit vs. traditional second mortgage loans
If you are thinking about a home equity line of credit, you might also want to consider a traditional second mortgage loan. A second mortgage provides you with a fixed amount of money repayable over a fixed period. In most cases the payment schedule calls for equal payments that will pay off the entire loan within the loan period. You might consider a second mortgage instead of a home equity line if, for example, you need a set amount for a specific purpose, such as an addition to your home.
In deciding which type of loan best suits your needs, consider the costs under the two alternatives. Look at both the APR and other charges. Do not, however, simply compare the APRs, because the APRs on the two types of loans are figured differently:
The APR for a traditional second mortgage loan takes into account the interest rate charged plus points and other finance charges.
The APR for a home equity line of credit is based on the periodic interest rate alone. It does not include points or other charges.
Disclosures from lenders
The federal Truth in Lending Act requires lenders to disclose the important terms and costs of their home equity plans, including the APR, miscellaneous charges, the payment terms, and information about any variable-rate feature. And in general, neither the lender nor anyone else may charge a fee until after you have received this information. You usually get these disclosures when you receive an application form, and you will get additional disclosures before the plan is opened. If any term (other than a variable-rate feature) changes before the plan is opened, the lender must return all fees if you decide not to enter into the plan because of the change.
When you open a home equity line, the transaction puts your home at risk. If the home involved is your principal dwelling, the Truth in Lending Act gives you 3 days from the day the account was opened to cancel the credit line. This right allows you to change your mind for any reason. You simply inform the lender in writing within the 3-day period. The lender must then cancel its security interest in your home and return all fees--including any application and appraisal fees--paid to open the account.
This article by: FEDERAL RESERVE BOARD
FREE E-BOOK
"SECRETS TO HOME BUYING" SAVE THOUSANDS OF DOLLARS by: Jeffrey Lovett
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Guide to Mortgage Lock-Ins
What Is a Lock-In?
A lock-in, also called a rate-lock or rate commitment, is a lender's promise to hold a certain interest rate and a certain number of points for you, usually for a specified period of time, while your loan application is processed. (Points are additional charges imposed by the lender that are usually prepaid by the consumer at settlement but can sometimes be financed by adding them to the mortgage amount. One point equals one percent of the loan amount.) Depending upon the lender, you may be able to lock in the interest rate and the number of points that you will be charged when you file your application, during processing of the loan, when the loan is approved, or later.
A lock-in that is given when you apply for a loan may be useful because it's likely to take your lender several weeks or longer to prepare, document, and evaluate your loan application. During that time, the cost of mortgages may change. But if your interest rate and points are locked in, you should be protected against increases while your application is processed. This protection could affect whether you can afford the mortgage. However, a locked-in rate could also prevent you from taking advantage of price decreases, unless your lender is willing to lock in a lower rate that becomes available during this period.
It is important to recognize that a lock-in is not the same as a loan commitment, although some loan commitments may contain a lock-in. A loan commitment is the lender's promise to make you a loan in a specific amount at some future time. Generally, you will receive the lender's commitment only after your loan application has been approved. This commitment usually will state the loan terms that have been approved (including loan amount), how long the commitment is valid, and the lender's conditions for making the loan, such as receipt of a satisfactory title insurance policy protecting the lender.
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Will Your Lock-In Be in Writing?
Some lenders have preprinted forms that set out the exact terms of the lock-in agreement. Others may only make an oral lock-in promise on the telephone or at the time of application. Oral agreements can be very difficult to prove in the event of a dispute.
Some lenders' lock-in forms may contain crucial information that is difficult to understand or that is in fine print. For example, some lock-in agreements may become void through some unrelated action such as a change in the maximum rate for Veterans Administration guaranteed loans. Thus, it is wise to obtain a blank copy of a lender's lock-in form to read carefully before you apply for a loan. If possible, show the lock-in form to a lawyer or real estate professional. It is wise to obtain written, rather than verbal, lock-in agreements to make sure that you fully understand how your lender's lock-ins and loan commitments work and to have a tangible record of your arrangements with the lender This record may be useful in the event of a dispute.
Will You Be Charged for a Lock-In?
Lenders may charge you a fee for locking in the rate of interest and number of points for your mortgage. Some lenders may charge you a fee up-front, and may not refund it if you withdraw your application, if your credit is denied, or if you do not close the loan. Others might charge the fee at settlement. The fee might be a flat fee, a percentage of the mortgage amount, or a fraction of a percentage point added to the rate you lock in. The amount of the fee and how it is charged will vary among lenders and may depend on the length of the lock-in period.
How Long Are Lock-Ins Valid?
Usually the lender will promise to hold a certain interest rate and number of points for a given number of days, and to get these terms you must settle on the loan within that time period. Lock-ins of 30 to 60 days are common. But some lenders may offer a lock-in for only a short period of time (for example, 7 days after your loan is approved) while some others might offer longer lock-ins (up to 120 days). Lenders that charge a lock-in fee may charge a higher fee for the longer lock-in period. Usually, the longer the period, the greater the fee.
The lock-in period should be long enough to allow for settlement, and any other contingencies imposed by the lender, before the lock-in expires. Before deciding on the length of the lock-in to ask for, you should find out the average time for processing loans in your area and ask your lender to estimate (in writing, if possible) the time needed to process your loan. You'll also want to take into account any factors that might delay your settlement. These may include delays that you can anticipate in providing materials about your financial condition and, in case you are purchasing a new house, unanticipated construction delays. Finally, ask for a lock-in with as few contingencies as possible.
What Happens if the Lock-In Period Expires?
If you don't settle within the lock-in period, you might lose the interest rate and the number of points you had locked in. This could happen if there are delays in processing whether they are caused by you, others involved in the settlement process, or the lender. For example, your loan approval could be delayed if the lender has to wait for any documents from you or from others such as employers, appraisers, termite inspectors, builders, and individuals selling the home. On occasion, lenders are themselves the cause of processing delays, particularly when loan demand is heavy. This sometimes happens when interest rates fall suddenly.
If your lock-in expires, most lenders will offer the loan based on the prevailing interest rate and points. If market conditions have caused interest rates to rise, most lenders will charge you more for your loan. One reason why some lenders may be unable to offer the lock-in rate after the period expires is that they can no longer sell the loan to investors at the lock-in rate. (When lenders lock in loan terms for borrowers, they often have an agreement with investors to buy these loans based on the lock-in terms. That agreement may expire around the same time that the lock-in expires and the lender may be unable to afford to offer the same terms if market rates have increased.) Lenders who intend to keep the loans they make may have more flexibility in those cases where settlement is not reached before the lock-in expires.
PHONE: 252-268-6629
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How Can You Speed Up the Approval of the Loan?
While the lender has the greatest role in how fast your loan application is processed, there are certain things you can do to speed up its approval. Try to find out what documentation the lender will require from you.
Much of the information required by your lender can be brought with you when you apply for a loan. This may help to get your application moving more quickly through the process. When you first meet with your lender, be sure to bring the following documents:
The purchase contract for the house (if you don't have the contract, check with your real estate agent or the seller).
Your bank account numbers, the address of your bank branch and your latest bank statement, plus pay stubs, W-2 forms, or other proof of employment and salary, to help the lender check your finances.
If you are self-employed, balance sheets, tax returns for 2-3 previous years, and other information about your business.
Information about debts, including loan and credit card account numbers and the names and addresses of your creditors.
Evidence of your mortgage or rental payments, such as cancelled checks.
Certificate of Eligibility from the Veterans Administration if you want a VA-guaranteed loan. Your lender may be able to help you obtain this.
Be sure to respond promptly to your lender's requests for information while your loan is being processed. It is also a good idea to call the lender and real estate agent from time to time. By calling occasionally, you can check on the status of your application, and offer to help contact others such as employers who may need to provide documents and other information for your loan. It is also helpful to keep notes on your contacts with the lender so that you will have a record of your conversations.
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Things to Consider Before Buying a Home
1. Select a Location:
How far are you willing to commute to work?
How far away do you want to be from relatives?
Do you have a preference for a specific school district?
Do you want to walk to shopping?
What amenities (pool, tennis, golf, security, etc.) are important to you?
2. Determine Your Price Range
Entry level/starter homes
Mid-range/move-up
Luxury communities
3. Financial Capacity
Get prequalified before looking for a home
Estimate at least 3% of the purchase price for closing costs
Determine how much of your saving will be used as a down payment
If renting, when does the lease expire?
If you own, do you need to sell your present home?
Tips:
1. Do your homework. Find new homes and builders via the media and through referrals. Read the local newspaper, check the Internet, and new home publications, or contact a real estate professional who can assist you. Real Estate companies are familiar with area builders, their products and prices.
2. Know the upper price range that you can afford, and the payments that best fit your financial conditions.
3. Match the price range of homes that meet your needs and shop those communities and builders. Follow directional signs and check newspaper, Internet and magazine ads.
4. Gather price/plan/feature information from the builders
5. Compare the information and quantify the best locations, plan, price, features, and financing options.
6. Check the builders reputation for quality and service.
7. Understand the warranty program and all extra features that builders offer.
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PHONE: 252-268-6629
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