As a homeowner, you’ve already put in the hard work to purchase a home. Between the long search, multiple showings, contract agreements, inspections, and finally closing on the property, you’ve earned the right to say that your home is yours. But with homeownership comes the associated task of maintaining your property. Without a landlord, all the maintenance, repairs, and upgrades are your responsibility. That responsibility includes the added cost of paying for contractors and materials.
Unfortunately, those costs often come at the least opportune times. Right after you’ve closed on the house, your liquidity has vanished with the required down payment, and large expenses don’t always wait until you’ve had a chance to recoup your emergency fund. The good news is that there’s a solution: a home equity line of credit (HELOC). Getting a HELOC can return you to a position where you can have the funds you need to pay for repairs, debt consolidation of high-interest loans, or even a much-needed vacation.
You’ll be happy to hear that it’s a lot easier to get a HELOC than buying a house in the first place. There are two major considerations to determine your eligibility and the size of your credit: the loan to value ratio (LTV) and the combined loan to value ratio (CLTV). As the names suggest, these two concepts are closely tied together, so we’ll examine each of them in turn.
The LTV is determined by taking the assessed value of your home and comparing it to the outstanding amount on your mortgage. Many firms use 80% as a cutoff point, so if you have a $200,000 house and owe $170,000, you may have difficulty finding a HELOC. If you only owe $100,000, however, your LTV is 50% and you will have a much easier time securing a HELOC.
CLTV takes the LTV and compares it to the banks’ HELOC limit. In most cases, this will range from 80-85%, so the difference between that number and your LTV is your CLTV. To use the example from above with a home valued at $200,000 and a remaining mortgage of $100,000, you would likely see a HELOC offer of up to $60,000, bringing you to an 80% CLTV.
You likely recall that you were able to acquire home loans in Los Angeles long before you bought a house, whether using a credit card or signing an unsecured personal loan for short-term expenses or debt consolidation. In most cases, a HELOC is a stronger option than what you could acquire without the value of a home to secure it. To put that in direct comparison, your credit cards can range from 16-28% interest, while an unsecured loan may fall in the 9-16% range depending on your credit and obligations. A HELOC, on the other hand, may be in the 3-6% range depending on your credit and CLTV.
The math is not always so straightforward when it comes to other secured loans, however. Look carefully when you plan to use a HELOC to purchase a new vehicle, as you may find better rates with an auto loan secured by the purchased vehicle.
The reason your HELOC will be low interest is that it is a second lien against your home. You can secure low monthly payments by opting for a term extending five, 10, or even 15 years, but if you ever default, then your home is at risk for foreclosure. Take the time to discuss this with your financial adviser to see if this risk is worth the benefits.
Ultimately, deciding to open a HELOC is a decision that you must make for yourself. It can often reduce your interest payments compared to other loans, and the interest you pay on it will itself be tax-deductible, so there are significant financial benefits to choosing a HELOC compared to an unsecured loan. Nevertheless, the risk is real if you default on the loan, so take some time to determine if this is right for you.