At a Glance
For some homeowners, a home equity line of credit is an ideal way to cover the costs. You can use it on home improvements, education, consolidating high-interest debt, and more. Read on to see if you’re eligible for a HELOC and how to apply.
Here’s a preview of the steps:
- Find a HELOC lender
- Gather important documents
- Fill out application online or in person
- Wait for approval
- Sign the paperwork and access your HELOC
How Does a Home Equity Line of Credit Work?
A home equity line of credit (HELOC) allows you to borrow from the equity of your house, up to a set limit. Like a credit card, you withdraw the money you need and pay interest on the amount drawn.
Pros of HELOCs
- Better interest rates than most credit cards and personal loans
- Interest can be tax-deductible if used for home improvement
- You only borrow and pay interest on the money you actually need
Cons of HELOCs
- Some have tran saction fees
- The interest rates are variable and subject to the markets
- Unlike a credit card, the draw period is limited (around 10 years)
- If you default on your loan, you could lose your home
Can You Get a HELOC?
When it comes to getting a home equity line of credit, every lender has different requirements. Most will consider:
- Your home equity: You must have at least 20% equity in your property.
- Your credit score: Many banks will accept 620 or higher, though 700 is preferable.
- The combined loan-to-value ratio (CLTV): The CLTV is the amount you want to borrow combined with your mortgage balance, divided by the property’s worth. Most lenders offer a HELOC with a maximum combined loan-to-value ratio of 75-80%.
- Your debt-to-income ratio (DTI): Your DTI, including estimated monthly HELOC payments, must remain below the lender’s maximum to qualify. Maximums vary by lender, though the Consumer Financial Protection Bureau recommends keeping DTI ratios below 43%.
Keep in mind these same numbers will also affect the interest rate and terms the lender sets for your line of credit. Learn more about HELOC eligibility requirements.
How to Apply for a HELOC
The HELOC application process is very similar to getting a home mortgage. The initial vetting process may take weeks to complete, and you’ll need to provide documents like tax returns and bank statements. Make sure you’re eligible before taking the steps below.
1. Find a HELOC lender
Compare rates and fees with at least 2-3 lenders, especially if you have a higher DTI. When comparing quotes, consider:
- The margin: The margin is the amount a lender adds to the prime rate. (It’s the primary way a HELOC makes money for lenders.) Lenders may not include the margin until after the introductory rate period ends. If you don’t see it, ask about it.
- Fees: Ask the lender to include information about what fees you’ll pay, including closing costs, annual maintenance fees, and early closure fees.
- Interest caps: Pay attention to the caps on your interest rate. Be sure you can afford the maximum rate you could pay.
2. Prepare your documents
Gathering government-required paperwork ahead of time can make the application process smoother. Documents may include:
- Personal and contact information (name, social, phone number, email, years of school, number of children, etc.)
- Residence history and documentation (a minimum of two years)
- Employment and income history, such as pay stubs, W2s, verified tax filing (a minimum of two years)
- All bank statements, including investment accounts (a minimum of two months)
- Documentation of life events, including bankruptcies, divorces, child support, alimony, etc.
- Documentation for any properties you own, including payments, taxes, income, insurance, etc.
3. Apply for a line of credit
Once you’ve gathered your documents and decided on a HELOC lender, it’s time to apply. At smaller banks or credit unions, you may fill out your application in person with the lender. Larger banks may have you apply over the phone or online, requesting that you email or fax documents.
During this process, your lender will give you disclosures to read. Review these carefully, and don’t be afraid to ask questions.
4. Wait for approval
Your lender will review your documents and run a credit check. They may also get an appraisal on your home and verify your employment. All these things can take time. Depending on your lender, the approval process may take hours, or it could take weeks.
5. Sign the paperwork, access your HELOC
Once you’re approved and you’ve accepted the offer, the rest of the process will feel familiar. Closing on a HELOC is very much like closing like a traditional home mortgage (i.e., signing a lot of paperwork).
Afterward, your home equity line of credit will be available to use. Depending on your lender, you may receive a HELOC card or checks to access your line of credit.
Home Equity Line of Credit FAQs
What’s the difference between a HELOC and a home equity loan?
A HELOC is different from a home equity loan, where you borrow a lump sum at a fixed interest rate. Each option has its pros and cons, but if you like flexibility and you’re able to pay off the debt faster, a HELOC may be a better choice.
How much can I borrow?
Banks generally allow borrowers to take out as much as 85% of their appraised home value, minus what’s still owed on your first mortgage.1
Will a HELOC impact my credit score?
Applying for any loan will most likely hurt your credit score in the short-term, so you should expect a HELOC to lower your score temporarily.
How do I pay back a HELOC?
There are two phases of a home equity line of credit: the draw period and the repayment period.
- Draw period: The draw period lasts typically for 10 years, during which you can take out money by card or check. Your minimum payments are usually interest-only, but you’ll have the option to pay the principal as well.
- Repayment period: The repayment period lasts typically for 20 years, though this can vary. During the repayment period, you don’t borrow against the credit line anymore; you repay it monthly, including interest and principal.