HELOC: Five Crucial Points About Interest Rates

By Barbara Marquand
Mortgage Credit Problems Columnist

Most everybody knows to shop for the lowest interest rate when looking for a home equity line of credit. A lot of consumers, though, get burned by failing to understand how that interest rate works.

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This is critical because unlike fixed-rate home equity loans, HELOCs typically come with variable rates. Although an advertised rate might look great now, it could rise later. If those payments become unaffordable and you default on a HELOC, you not only wreck your credit, but you risk losing the collateral--your home.

Here are five points to understand about HELOC rates:

1. Introductory Rate

Some loans offer an ultra-low rate for a short period, say six months. Don't confuse the teaser rate with the undiscounted rate once the introductory period is over.

2. Index

Variable rates are tied to a publicly available index, such as the prime rate or U.S. Treasury bill rate. Find out the index and how much it is currently. No one can predict with certainty when and how much that rate will rise or fall, but you can get a general sense by following financial news. How high has the index risen in the past?

3. Margin

The margin is the amount the lender tacks on to the index to produce the variable rate. The rate you pay equals the index plus the margin.

4. Cap

By law a variable rate HELOC must have a cap -- a limit for how high the rate can go. Find out how much the cap is to determine whether you'll be able to repay the money you borrow if the rate reaches the peak. c

5. Floor

Some HELOCs also include a floor, a limit to how low your rate can drop when the index falls. Your payments then will dwell somewhere between the rate floor and the rate ceiling.

HELOCs are useful tools for paying expenses that occur over time, such as phased home-improvement projects or college tuition, and they can serve as debt consolidation loans to pay off high-interest credit card debt. But keep in mind it's tougher to qualify with bad credit lenders than a few years ago if you've had some financial trouble, and you'll need a good chunk of equity in your home, a significant challenge in light of falling home values.

To get started shopping for a HELOC, enter your information on the form on this page to get up to four free quotes from lenders.


http://www.federalreserve.gov/ / http://www.sfgate.com/

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