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Tapping your equity with a Home Equity Line of Credit

If you're thinking about ways to tap your financial resources, you'll find that utilizing your home equity is often a viable option. Your home equity is the current value of your home minus the money you owe on the mortgage. A simple way to get the most out of your equity if you're in a financial crunch is to take out home equity line of credit, which is a kind of second mortgage.
A Home equity line of credit (HELOC) gives you the opportunity to fulfill your financial needs using your home equity as security for a loan. For buyers that don't have any money for down payment, a home equity line of credit is a good option. With a line of credit, you never borrow beyond a certain credit limit, which helps you to manage your debts better.

How a HELOC works

A home equity line of credit works like a credit card where you can withdraw cash up to a predetermined limit any time within the draw period. It's easy to access the funds in a HELOC by writing a check, using a credit card, or by using a debit card that accesses the line of credit.

When you take advantage of a HELOC, you are required to make a minimum monthly payment that covers the interest. But you can also pay down the principal so that your debts are cleared and you can withdraw funds again if the draw period isn't over.

Once the draw period ends, you can ask for a renewal or you can no longer access the cash once the draw period expires. The repayment period starts once the draw period has expired and the HELOC takes the form of an adjustable rate mortgage (ARM) that requires you to pay down the loan in regular installments.

In most cases, you have a draw period of 5 to 10 years, after which the repayment period is typically 10 to 15 years. There are lenders who offer HELOCs with no fixed terms for withdrawal and repayment of loan; you can carry on with the loan until you sell the property.

Here's an example on how a HELOC works:
Suppose you have a line of credit of $10,000.
You borrow $6,000 in order to pay for a kitchen remodel.
You owe the $6,000 you've already taken and the remaining credit available is $4,000.
If you pay back $2,000, you still owe $4,000.

So, you have $6,000 ($4,000 + $2,000 = $6,000) in available credit.

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carnahandavid's picture
carnahandavid | Joined: December 21, 2006 04:07 pm | Posts: 0 | Location: New Jersey | 00 Dollars($)

Let me add some information about how the interest is charged on a HELOC.

Balance on this type of loan can change on a daily basis as the borrower draws from the credit line and makes repayments. So interest on a home equity line of credit is calculated daily instead of being calculated monthly. Let me give an example of how it works.

Suppose on an frm of 6%, interest is calculated every month as .06 (6% or 6/100 = .06) divided by 12 (months) which comes out to .005, this is multiplied with principal balance amount as on last day of previous month. If the balance amount was $50,000, then interest to be paid that month would be $250.

While for a HELOC with 6% rate, interest on a daily basis is calculated as, .06 divided by 365 = .000164, this is then multiplied with average daily balance for that month. And if the balance happened to be $50,000, then daily interest will be $8.2 and for the month it will be $246 while for a 31 day month, it will come out to $254.2 .

David

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Anonymous's picture
Anonymous | Joined: June 8, 2004 01:06 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

what disclosures lender is required to make for a home equity plan?

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blue's picture
blue | Joined: October 21, 2005 09:17 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

Hi Spero,

Welcome to Mortgagefit discussion board.

As per Truth in Lending Act, lender is required to make disclosure regarding all the important terms & costs of the home equity plans they offer. Such as the APR, payment terms, miscellaneous charges and details of variable rate feature for their loans.

Additionally lender cannot charge you any fee until you have been provided all these disclosures. These disclosures are provided when a person is given the application form. Some additional disclosures are provided when the home equity plan is opened.

TILA also states that lender has to return all fees charged if any of the terms of the plan change (except for the variable rate feature) before the plan is opened and because of which you decide not to open the plan.

Do let me know if you have any other questions.

Thanks
Blue

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Anonymous's picture
Anonymous | Joined: June 8, 2004 01:06 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

what are participation & transaction fees for helocs

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colin's picture
colin | Joined: June 30, 2006 02:50 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

Hi Cantina,

Welcome to Mortgagefit forum.

Participation fee is what is charged annually to have the line of credit available. Generally it is charged regardless of you are using the credit line or not.

And the transaction fee is an amount charged every time a borrower draws on his credit line.

Colin

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Anonymous's picture
Anonymous | Joined: June 8, 2004 01:06 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

I am in Colorado and have a second house with a heloc. I am thinking of a foreclosure with heloc balance of $50K, or a short sale – which is my best option? Would the lender forgive the balance on either of the processes. Would they go after my first mortgage and home after I tell them I 'll go for foreclose or short sale? The home is the only one I have and would surely not like to lose it.

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larry2's picture
larry2 | Joined: June 27, 2007 02:50 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

Hi Jack_ben,

Welcome in this forum.

You should avoid foreclosure as foreclosure will affect your credit. It will drop your credit score for 200 to 300 points and will be shown in your credit report for 10 years. So foreclosure should be your last option. I think you should first talk to your lender and see if there are any options available for you to [url=http://www.mortgagefit.com/foreclosure/17ways-avoid.html]avoid foreclosure[/url].

"which is my best option?" Between foreclosure and short sale, short sale is better as it affects your credit less than foreclosure. Short sale will drop 80 to 100 points.

Would the lender forgive the balance on either of the processes. Would they go after my first mortgage and home after I tell them I 'll go for foreclose or short sale?
I think they will not forgive the balance as you have another property. Only if you cannot pay the balance in anyway, then they may forgive it but in that case, they will send 1099 C form to the IRS and you have to pay tax on that forgiven amount.

So, talk to your lender as soon as possible. And try to go for [url=http://www.mortgagefit.com/deed-lieu.html]deed in lieu of foreclosure[/url] if it is possible as in that case your balance amount will be forgiven. Or you can try out some other options also if possible.

Best of luck,
Larry

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Anonymous's picture
Anonymous | Joined: June 8, 2004 01:06 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

I am very thankful for your website. It is very informative. Keep up the good work.

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jenkin7's picture
jenkin7 | Joined: June 4, 2007 11:02 pm | Posts: 0 | Location: New Jersey | 00 Dollars($)

Hello Ravello,

Thanks for your appreciation.

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Anonymous's picture
Anonymous | Joined: June 8, 2004 01:06 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

My spec house would not sell and forclosed 2 months ago. The line of credit against( used to make the morgage payments untill the house sold) is about 35k and they want the money. I was told by a lawyer in the state of the forclosure that the line would go as well. Is this not the case?

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jameshogg's picture
jameshogg | Joined: December 20, 2005 02:58 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

Hi Noah,

Welcome to forums.

You mean the lender wants the entire 35K which was unpaid and because of which they foreclosed? How is this possible? Was the lender able to recover the unpaid debt entirely through the foreclosure?

In case, the lender hasn't been able to recover the unpaid debt in full, he may ask you for the deficit amount and perhaps that's the reason they're now asking for money. Just have a clear talk with the lender. I think somehere there's a kind of communication gap. Oh, by the way, is it that the first mortgage debt could be recovered but not the line of credit? Then that's the reason they're asking for 35K. What you can do now is, request them to charge-off or cancel the debt if you are not able to pay off the line of credit.

Thanks

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Anonymous's picture
Anonymous | Joined: June 8, 2004 01:06 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

I've bought a house for $120,000 and then I took out a heloc worth $30,000. now if I sell the house for $2,20,000, do I owe capital gains taxes on $120,000 or on 70,000?

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jenkin7's picture
jenkin7 | Joined: June 4, 2007 11:02 pm | Posts: 0 | Location: New Jersey | 00 Dollars($)

Hello Adrian,

You have to pay the capital gains tax on the difference between the original amount which you paid for purchasing the property and what you receive when you are selling the property. So, in your case the difference is $100,000.

But if this is your primary residence, you may make up to $250,000 profit without paying the taxes if you are a single owner and twice the amount if you are married and filing the returns jointly. In that case you have to occupy the residence for a minimum of 2 years out of the past 5 years prior to the sale.

For further information on capital gains exemption, you may look here [url]http://www.mortgagefit.com/budgeting-finance/capitalgainsexemption.html[...

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lisa.scherzer's picture
lisa.scherzer | Joined: January 4, 2008 08:48 pm | Posts: 0 | Location: New Jersey | 00 Dollars($)

Hi Adrian,

Capital gains is based on the difference between what you paid for the home and the cost of iimprovements and the sale of the home. It is not based on what you have borrowed against the home. So to calculate capital gains, take the sales prices and subract what you paid for it and all the improvements you have done (actual cost) to determine capital gains tax. If you have lived in the property for 2 out of the last 5 years then you should be exempt from this tax up to 250K if single and 500K for a married couple.

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Anonymous's picture
Anonymous | Joined: June 8, 2004 01:06 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

Does opening a Heloc with high limit affect FICO score?

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larry2's picture
larry2 | Joined: June 27, 2007 02:50 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

Hi Archie,

Welcome to the forum.

I don't think that a opening a high limit HELOC affect your score. Instead if you can make the payments on time regularly then it can help you to increase your credit score.

Feel free to ask if you have any further questions.

Best of luck,
Larry

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Samantha's picture
Samantha | Joined: September 16, 2005 11:59 pm | Posts: 0 | Location: New Jersey | 00 Dollars($)

Heloc being a revolving debt, when the credit bureaus calculate your credit score, they'll consider the ratio between your outstanding debt and available credit, not how much of credit is available to you.

If you can maintain a debt to available credit ratio of 25% or even lower, your score would remain unaffected. Beyond this ratio, there may be a negative influence on your score.

Hope this helps...

God bless you.

Samantha

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Anonymous's picture
Anonymous | Joined: June 8, 2004 01:06 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

I hate my current job but feel stuck because of my mortgage.MY husband and I have started the ground floor work of 3 apartments at the back of our home, but we need about $50,000 to complete the work. Sould we mortgage our home?. I just do not know what to do. We are thinking about finishing the apartments and selling the entire building, which when completed should sell for about $300,000,but we are afraid if it will be sold, how quickly and if it will be sold at our price. If sold we can pay of our first mortgage and pay of the loan. What should we do?

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jameshogg's picture
jameshogg | Joined: December 20, 2005 02:58 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

Hi tameca,

A query similar to yours has been answered in the given link:
http://www.mortgagefit.com/loantalk/selloff-apartments.html#71246

Please take a look at it. I hope it will help you.

Thanks

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Anonymous's picture
Anonymous | Joined: June 8, 2004 01:06 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

Does any one know how this scenario works?
2nd lender changes the secure heloc to unsecure revolving credit card and keep it on your credit at the time of short sell? Then the borrower has to carry it like a credit card and keep making the monthly payments.
What would be the effect on credit score and obtaining future loans?

Thanks

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Caron's picture
Caron | Joined: July 19, 2005 08:37 pm | Posts: 0 | Location: New Jersey | 00 Dollars($)

Hi R,

There's nothing to worry about it. Basically, the mortgage balance couldn't be recovered through the sale. This is why the lender wants you to pay the rest in the form of an unsecured loan. The loan becomes unsecured because the collateral has been lost due to short sale.

The short sale will reduce your credit score by 80-100 points. But the [url=http://www.mortgagefit.com/second-mortgage.html]second mortgage[/url] changing to an unsecured heloc won't affect your credit in any way. However, you need to keep making on-time payments in order to pay off the unsecured loan.

Good luck

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Anonymous's picture
Anonymous | Joined: June 8, 2004 01:06 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

I live in California with my wife. In 2005 she became ill and could not work, so by the summer of 2007 we defaulted on our house. The bank agreed on short sale and the house was sold January 2008. When we bought the property the bank set up the finance with two loans, the mortgage loan (80%) and a line of credit (10%). The last 10% we put down. The property was sold for $215 000 less that we paid for it. We received a 1099-C this year for the mortgage loan but nothing for line of credit.
My question is now: There is a company that bought the HELOC debt from the bank who is calling me and they want me to pay the loan back. We don’t have the finance now ($65 000), and I don’t know if we ever will. So what can I do?

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eric1's picture
eric1 | Joined: January 4, 2009 03:52 pm | Posts: 0 | Location: New Jersey | 00 Dollars($)

I would be careful about paying anything to a third party company. Could be a potential scam

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Anonymous's picture
Anonymous | Joined: June 8, 2004 01:06 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

Can the outstanding balance of a HELOC be included in a [url=http://www.mortgagefit.com/refinance.html]refinance[/url] of a 1st and 2nd mortgage to a single loan? Is this scenario even allowed? :?

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savior70's picture
savior70 | Joined: March 25, 2009 05:14 am | Posts: 0 | Location: New Jersey | 00 Dollars($)

Hi Guest,

You can refinance both the first mortgage and the [url=http://www.mortgagefit.com/home-equity.html]home equity loan[/url] into a single loan. But there has to be enough equity for you to be able to do so. In fact if there's enough equity in the property and you can refinance both the loans together at a lower interest rate, you can save a lot of money in interest.

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