How Does a HELOC Work?

Aug 09, 2024

If you’re thinking of taking out a second mortgage or tapping into the equity in your home, you may have come across the term HELOC or Home Equity Line of Credit. But what exactly is a HELOC, and how does it work? Are competitive HELOC rates in New York something you can use to your advantage? We’ll break down everything you need to know so that you can decide whether a HELOC is what you need to realize your financial dreams.

What Is a HELOC?

A HELOC is a type of home loan that allows you to borrow an approved amount of your home’s equity during a draw period and then repay what you’ve borrowed during a later repayment period. Since it is a line of credit, you can borrow as little or as much of the full amount as you’d like at any time during the draw period.

You can even repay all or part of what you’ve borrowed before the draw period ends and borrow the money again. Once the repayment period starts, however, you can no longer withdraw additional funds, and repayment must begin.

Throughout the course of the draw period, you will only be responsible for paying interest on the borrowed amount. Only when the draw period ends will you be responsible for paying back the interest plus principal. This keeps your payments low for the duration of the draw period.

As with your mortgage, your creditworthiness and loan-to-value (LTV) ratio are considered when you apply. Your lender may have other requirements as well.

The amount of money you can borrow is based on how much equity you have built up in your home. This can be calculated by subtracting the remaining balance on your mortgage from your home’s current value. As with other home equity products, such as home equity loans and cash-out refinances, lenders typically allow homeowners to borrow up to 80 or 85 percent of their home equity value.

Though you may open a HELOC without paying off your first mortgage, the more equity you have built in your home, the more you will be able to borrow.

How Are HELOCs Different From Similar Products?

While they have similarities, such as how much you can borrow, HELOCs, home equity loans, and cash-out refinances are structured differently. A refinance pays off your existing home mortgage, so you only have one loan remaining, but a HELOC is a second lien on your property. So is a traditional home equity loan; however, a home equity loan is distributed as a single lump sum while the funds from a HELOC can be accessed on an as-needed basis during the draw period.

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Although a HELOC is a loan product, it functions more like a credit card. When you close on a HELOC, you are approved for up to a certain amount, just as with a credit card. You can think of this amount as your credit limit. And just as with a credit card, you don’t have to use the full approved amount—or you can use all of it.

But a HELOC is different from a credit card too. Home equity lines of credit typically have more competitive interest rates. They also have an interest rate cap. Another key difference is that while a credit card can remain open indefinitely, you’ll eventually have to pay back the HELOC and close the account for good.

Is a HELOC Right for You?

As you compare loan products, you’ll want to compare HELOC rates near you. But you should also think about your personal financial situation. Is a HELOC a good option for your current needs?

For instance, are you short on cash now but expecting a windfall in the near future? Then a HELOC could be a good fit since you’re only responsible for paying the interest during the draw period.

Likewise, if you believe you may benefit from a revolving line of credit you can draw against, pay back, and draw against again, then you may want to take advantage of the flexibility a HELOC provides.

Uncertain of the exact amount you need to borrow? A HELOC will likely work well for you because you can take out a line of credit for the full amount you qualify for but only use the amount you need. This can be an ideal solution for home improvement projects with an open-ended budget.

Since you’ll only accrue interest on the amount you actually use, you could wind up saving more money with a HELOC than if you were to take out a home equity loan of the same value. That’s because home equity loans are paid out in one lump sum, and you start accruing interest immediately. With a HELOC, on the other hand, you only accrue interest when you draw on the money.

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What can I use my home's equity for?

Essentially, a HELOC can be used for any purpose. But certain financial situations lend themselves especially well to a revolving line of credit. Need to brush up on what you can use your home's equity for? 

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How To Apply for a HELOC

Does a home equity line of credit sound like the right fit for your finances? The HELOC rates at New York community credit unions are competitive, so seize the opportunity to open a HELOC with Mid-Hudson Valley Federal Credit Union.

It’s simple to do so. Plus, you can choose the terms that work best for you, with both 5- and 10-year draw periods. 

Ready to leverage the equity you’ve built in your home and put it to use for you? We’re ready to help. Get in touch with MHV. Working together, we’re confident the financial future you’ve always dreamt of will be well within your reach.

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