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Need funds to cover a sudden expense? Whether you’re starting a home remodeling, a complete roof replacement, an urgent home repair, or paying an unexpected hospital bill, a home equity line of credit or HELOC is a good option for borrowing cash urgently. And, when you do get a HELOC or a revolving credit against your home equity, repaying it becomes all the more important. That’s why you need to completely understand all the concepts of the loan — including HELOC draw period and HELOC repayment period.
While a HELOC can be quick and easy funding for those with a good credit score, it does put your home at stake — and you, under an obligation to repay your loan timely.
A HELOC draw period is the amount of time you have to tap into the revolving credit available with you. And before this period ends, you should decide whether you can afford to repay the outstanding balance of the loan amount at the current interest rates, or not.
This blog will help you take stock of a few important things before your HELOC draw period ends. We’ve used Bankrate as our reference to explain what your options are.
Understand what is a HELOC draw period
A HELOC is like an open line of credit — with a set amount that you can draw funds from. This line is calculated based on the amount of equity you have in your home. You can borrow up to that credit limit, pay the loan amount back, and then borrow some more until the HELOC draw period comes to a close. Once it’s over, you cannot borrow from the loan again. You’ll have to perhaps refinance it first to borrow some more money.
This period typically lasts five to 10 years. The good news is that during this time, you just have interest-only payments to make on the money you’re borrowing.
We’ll understand it through an example. Suppose, you took a HELOC of $50,000 at a 5 percent interest rate. You agreed on a 10-year draw period and a 15-year repayment period. Your minimum monthly payment during the HELOC draw period will be $208.33.
Understand what is a HELOC repayment period
Once the HELOC draw period is over, the repayment period begins. That’s when you cannot draw more money from the credit line. You get a repayment schedule whereby you pay back both the principal payment as well as the interest amount every month — depending on how much you’ve borrowed.
A repayment period typically lasts 10 to 20 years.
Know exactly when your draw period ends
You need to be completely prepared for what comes next in your loan repayment scheme. As your draw period expires, your monthly payment will increase significantly — and will include principal as well as interest.
Therefore, it’s really important to keep track of your draw period. You can then plan whether to refinance the HELOC or pay down the principal during the repayment period.
Understand your outstanding balance at the start of the repayment period
Knowing the full amount helps you avoid surprises. You can budget your expenditures in a planned manner — prioritizing important things for the next 10 to 20 years.
If you have a variable-rate loan, it’s best to start paying off your balance even before the beginning of your repayment period. Or, if you’re looking for more financial stability, you may want to refinance with a fixed-rate loan.
Ask your loan lender some pertinent questions
If you have any doubts regarding your loan, it’s a good idea to reach out to your lender before you enter the repayment phase. Ask them some crucial questions, such as:
- Can I anticipate any change in the interest rate during the repayment phase?
- Do I have a fixed or a variable interest rate? Will I be able to shift to a fixed rate?
- What will be my monthly payment during the draw period and during the repayment period?
A good, reliable lender will notify you at least six months before the HELOC draw period ends and the repayment phase begins.
Explore your repayment options
Before the draw period ends, you can either refinance into another line of credit with a fresh draw or retire your HELOC. The best solution for you will depend on your financial situation. Whichever option you choose, you must weigh it carefully. You can opt for any of the following:
- Repay your HELOC if you have the money. Or, the next best option is to lower the balance as much as possible.
- If you’re looking to refinance with another HELOC, choose one that has a low APR for the introductory period. It will help keep your monthly payments down — also giving you more time before the payments on your principal. Keep in mind that when you’re refinancing, you may incur additional costs, such as prepayment penalty fees, annual fees, or loan application fees.
- Refinance with a fixed interest rate HELOC. Since payments on a variable-rate loan keep fluctuating from month to month, it can give you sleepless nights. A fixed-rate HELOC, on the other hand, will give you a fixed APR on the amount you owe. If you choose to refinance, it’s always a good idea to compare interest rates and fees from different loan lenders.
- Refinance into a home equity loan. This type of loan will allow you to borrow money (secured by your home equity) while giving you a fixed APR, fixed monthly payments, and an agreed-upon repayment timeline. Moreover, it gives you access to a lump sum amount instead of a revolving line of credit.
- Roll the HELOC outstanding balance into a mortgage refinance. You’ll get the option of paying single, regular monthly payments. But, you’ll not be able to make future draws.
Read more: Why you should not pay off your house early
The draw period is when you get a chance to spend the money you’ve borrowed before you have to repay that amount. In that sense, it’s similar to using a credit card where you can spend money up to a set limit.
It’s extremely important that you know exactly how long your draw period is, and when it will end. Before it does, you must have a repayment plan ready. For example, if you’re unable to afford the change in your monthly payments posts the draw period, you must explore all your alternatives. Make sure to weigh their pros and cons before making a final decision.
Read more: Why big banks stopped financing HELOCs
What to learn more? visit Bankrate.com to learn more about what to know before your HELOC draw period ends