“I had an advisor that told me to refinance with a HELOC rather than a standard mortgage. What is the difference and why might one be better then another?”
HELOC is short for Home Equity Line Of Credit. That loan is set up as a line of credit rather than for a fixed amount of cash.
Example:
If you have a standard mortgage you might borrow $150 000 which would be paid out in its enterity when finished. Using a HELOC instead, you are promised to advance up to $150 000, in an amount you need. You can draw on the line by writing a check or some other ways, such as a special credit card.
Most HELOCs are what called “second mortgages”, although an increasing number are first mortgages, as yours would be if you would use it refinancing your first mortgage. Using a HELOC loan INSTEAD of a first mortgage is pretty risky, for reasons following:
HELOCs have a draw period in which the borrower can use the line and a repayment period wich it must be repaid. A draw period can be 5 to 10 years and at that time the borrower only have to pay the interest. Repayment periods are usually 10 to 20 years and at that time the borrower must make payments to equal the balance at the end of the draw period divided by the number of months in the repayment period. That basically mean that you have to pay back the money you have loaned during the payment period.
HELOC interest
Since the balance of a HELOC loan change from day to day depending on draws and repayments the interest is calculated daily rather than monthly or yearly. Example:
If you have a standard 6% mortgage, the interest for the month is 0.06 divided by 12 which equals 0.005. This is then multiplied by the balance at the end of the preceeding month. If the balance is $100,000 the interest payment would be $500.
In a 6% HELOC loan, the interest for a day would be 0.06 divided by 365 which equals 0.000164, which is then multiplied by the avarage daily balance during the period of a month. If this would be $100,000, the daily interest would be $16.44 and that would make it to be $493 or $510 per month depending on if its a 30-day or 31-day month.
HELOC advantages
HELOCs are good loans for funding intermittent needs, such as paying of a credit card or paying collage tuition. The upfront costs are relitively low. On a $150,000 standard loan, settlement costs may range for $2-5000 unless the borrower pays an interest rate high enough for the lender to pay some or all of it. On a HELOC with the same amount, costs would seldom exceed $1000 and in many cases this is paid by the lender without a rate adjustment.
You must be logged in to post a comment.