June 1992Using 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.)
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.
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.
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.
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.
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.
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.
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.