AOH :: EQCREDIT.TXT|
Home Equity Credit Lines
Facts for Consumers from the Federal Trade Commission
Home Equity Credit Lines -- June 1992
Using a credit line to borrow against the equity in your home has
become a popular source of consumer credit. And lenders are
offering these home equity credit lines in a variety of ways.
You will find most loans come with variable interest rates, some
come with attractive low introductory rates, and a few come with
fixed rates. You also may find most loans have large one-time
upfront fees, others have closing costs, and some have continuing
costs, such as annual fees. You can find loans with large balloon
payments at the end of the loan, and others with no balloons but
with higher monthly payments.
No one loan is right for every homeowner. The challenge, then,
is to contact different lenders, compare options, and select the
home equity credit line best tailored to your needs.
Be sure to review the home equity contract carefully before you
sign it. Do not hesitate to ask questions about the terms and
conditions of your financing. To help you do this, you may want
to consider the following questions and to use the checklist at
the end of this brochure. (We apologize that the checklist is not
available on-line. To obtain a copy of the checklist, please
request a free copy of the brochure by contacting: Public
Reference, Federal Trade Commission, Washington, D.C. 20580;
(202) 326-2222. TDD call (202) 326-2502.)
Is a Home Equity Credit Line for You?
If you need to borrow money, home equity lines may be one useful
source of credit. Initially at least, they may provide you with
large amounts of cash at relatively low interest rates. And they
may provide you with certain tax advantages unavailable with
other kinds of loans. (Check with your tax adviser for details.)
At the same time, home equity lines of credit require you to use
your home as collateral for the loan. This may put your home at
risk if you are late or cannot make your monthly payments. Those
loans with a large final (balloon) payment may lead you to borrow
more money to pay off this debt, or they may put your home in
jeopardy if you cannot qualify for refinancing. And, if you sell
your home, most plans require you to pay off your credit line at
that time. In addition, because home equity loans give you
relatively easy access to cash, you might find you borrow money
Remember too, there are other ways to borrow money from a lending
institution. For example, you may want to explore second
mortgage installment loans. Although these plans also place an
additional mortgage on your home, second mortgage money usually
is loaned in a lump sum, rather than in a series of advances made
available by writing checks on an account. Also, second
mortgages usually have fixed interest rates and fixed payment
You also may want to explore borrowing from credit lines that do
not use your home as collateral. These are available with your
credit cards or with unsecured credit lines that let you write
checks as you need the money. In addition, you may want to ask
about loans for specific items, such as cars or tuition.
How Much Money Can You Borrow on a Home Equity Credit Line?
Depending on your creditworthiness (your income, credit rating,
etc.) and the amount of your outstanding debt, home equity
lenders may let you borrow up to 85% of the appraised value of
your home minus the amount you still owe on your first mortgage.
Ask the lender about the length of the home equity loan, whether
there is a minimum withdrawal requirement when you open your
account, and whether there are minimum or maximum withdrawal
requirements after your account is opened. Inquire how you gain
access to your credit line _ with checks, credit cards, or both.
Also, find out if your home equity plan sets a fixed time _ a
draw period _ when you can make withdrawals from your account.
Once the draw period expires, you may be able to renew your
credit line. If you cannot, you will not be permitted to borrow
additional funds. Also, in some plans, you may have to pay your
full outstanding balance. In others, you may be able to repay
the balance over a fixed time.
What is the Interest Rate on the Home Equity Loan?
Interest rates for loans differ, so it pays to check with several
lenders for the lowest rate. Compare the annual percentage rate
(APR), which indicates the cost of credit on a yearly basis. Be
aware that the advertised APR for home equity credit lines is
based on interest alone. For a true comparison of credit costs,
compare other charges, such as points and closing costs, which
will add to the cost of your home equity loan. This is
especially important if you are comparing a home equity credit
line with a traditional installment (or second) mortgage, where
the APR includes the total credit costs for the loan.
In addition, ask about the type of interest rates available for
the home equity plan. Most home equity credit lines have
variable interest rates. These variable rates may offer lower
monthly payments at first, but during the rest of the repayment
period the payments may change and may be higher. Fixed interest
rates, if available, may be slightly higher initially than
variable rates, but fixed rates offer stable monthly payments
over the life of the credit line.
If you are considering a variable rate, check and compare the
terms. Check the periodic cap, which is the limit on interest
rate changes at one time. Also, check the lifetime cap, which is
the limit on interest rate changes throughout the loan term. Ask
the lender which index is used and how much and how often it can
change. An index (such as the prime rate) is used by lenders
to determine how much to raise or lower interest rates. Also,
check the margin, which is an amount added to the index that
determines the interest you are charged. In addition, inquire
whether you can convert your variable rate loan to a fixed rate
at some future time.
Sometimes, lenders offer a temporarily discounted interest rate _
a rate that is unusually low and lasts only for an introductory
period, such as six months. During this time, your monthly
payments are lower too. After the introductory period ends,
however, your rate (and payments) increase to the true market
level (the index plus the margin). So, ask if the rate you are
offered is "discounted," and if so, find out how the rate will be
determined at the end of the discount period and how much larger
your payments could be at that time.
What Are the Upfront Closing Costs?
When you take out a home equity line of credit, you pay for many
of the same expenses as when you financed your original mortgage.
These include items such as an application fee, title search,
appraisal, attorneys' fees, and points (a percentage of the
amount you borrow). These expenses can add substantially to the
cost of your loan, especially if you ultimately borrow little
from your credit line. You may want to negotiate with lenders to
see if they will pay for some of these expenses.
What Are the Continuing Costs?
In addition to upfront closing costs, some lenders require you to
pay continuing fees throughout the life of the loan. These may
include an annual membership or participation fee, which is due
whether or not you use the account, and/or a transaction fee,
which is charged each time you borrow money. These fees add to
the overall cost of the loan.
What Are the Repayment Terms During the Loan?
As you pay back the loan, your payments may change if your credit
line has a variable interest rate, even if you do not borrow more
money from your account. Find out how often and how much your
payments can change. You also will want to know whether you are
paying back both principal and interest, or interest only. Even
if you are paying back some principal, ask whether your monthly
payments will cover the full amount borrowed or whether you will
owe an additional payment of principal at the end of the loan.
In addition, you may want to ask about penalties for late
payments and under what conditions the lender can consider you in
default and demand immediate full payment.
What Are the Repayment Terms at the End of the Loan?
Ask whether you might owe a large payment at the end of your loan
term. If so, and you are not sure you will be able to afford the
balloon payment, you may want to renegotiate your repayment
terms. When you take out the loan, ask about the conditions for
renewal of the plan or for refinancing the unpaid balance.
Consider asking the lender to agree ahead of time and in writing
to refinance any end-of-loan balance or extend your repayment
time, if necessary.
What Safeguards Are Built Into the Loan?
One of the best protections you have is the Federal Truth in
Lending Act, which requires lenders to inform you about the terms
and costs of the plan at the time you are given an application.
Lenders must disclose the APR and payment terms and must inform
you of charges to open or use the account, such as an appraisal,
a credit report, or attorneys' fees. Lenders also must tell you
about any variable-rate feature and give you a brochure
describing the general features of home equity plans.
The Truth in Lending Act also protects you from changes in the
terms of the account (other than a variable-rate feature) before
the plan is opened. If you decide not to enter into the plan
because of a change in terms, all fees you paid earlier must be
returned to you.
Because your home is at risk when you open a home equity credit
account, you have three days to cancel the transaction, for any
reason. To cancel, you must inform the lender in writing.
Following that, your credit line must be cancelled and all fees
you have paid must be returned.
Once your home equity plan is opened, if you pay as agreed, the
lender, in most cases, may not terminate your plan, accelerate
payment of your outstanding balance, or change the terms of your
account. The lender may halt credit advances on your account
during any period in which interest rates exceed the maximum rate
cap in your agreement, if your contract permits this practice.
For More Information
If you have questions about home equity credit lines, write to:
Correspondence Branch, Federal Trade Commission, Washington, D.C.
20580. Although the FTC generally does not intervene in
individual disputes, the information you provide may indicate a
pattern or practice that requires action by the Commission.
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