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What To Know Before Your HELOC Draw Period Ends
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When taking out a home equity line of credit (HELOC), the HELOC draw period is your chance to spend the money you borrow before you have to pay it back. It’s the first step once you’ve closed on your HELOC, a flexible way to borrow against the equity you’ve built up in your property. Similar to a credit card, you just spend what you need up to a set limit.
It’s important to keep in mind how long your draw period lasts and when it ends. Here’s what you need to know before your draw period ends.
What is a HELOC draw period?
When you take out a HELOC, your lender sets a maximum amount you can borrow based on the equity you have in your property. Equity is the difference between how much you owe on your property and what it’s worth.
You then enter the HELOC draw period, the time in which you can spend your loan proceeds. Most of the time, your lender will give you a credit card or special checks you can use to spend the money. Your draw period is typically a set number of years, often 10 years.
How does HELOC repayment work?
When your HELOC draw period ends, you enter the repayment period. You’re no longer able to spend any more of the loan, and you’re required to start paying back everything you’ve borrowed, with interest.
Your repayment period will generally be a set number of years, typically 10 to 20. Most HELOCs have variable interest rates, so your monthly payment may change over the course of your repayment period. This is different from a standard home equity loan — with home equity loans, you get the loan proceeds as a lump sum, then immediately start paying the loan back with a fixed interest rate, meaning your monthly payments don’t change.
One word of warning as you enter the HELOC repayment period: If you’ve been making interest-only payments during the draw period, your payments are likely to go up significantly now that you’re paying back principal as well.
“Plan accordingly and don’t get caught off guard by the larger payment amount,” said Eric Aved, senior vice president and home equity product executive at Bank of America.
5 options to pay off your HELOC
When you’re taking out a HELOC, you may be offered different options for paying it back — here are a few of them.
1. Make more than the minimum payment during the draw period
This is less of a repayment plan and more of a strategy to make paying off your HELOC easier. During the draw period, you often only need to make interest payments on the amount you borrow. However, you’ll generally have the option to make principal payments as well, reducing your outstanding balance — this can help ease the sticker shock you might feel when you enter the standard repayment period.
“HELOCs can be a great financial tool if used wisely, but if not paid off or paid down during the draw period, they could be dangerous for those who haven’t planned for it,” said Steven A. Boorstein, a CFP and founder of RockCrest Financial in Williamstown, N.J.
2. Make the standard payments
Most HELOCs will have a set repayment period, and your lender will create a monthly principal and interest payment plan that will fully pay off the loan by the time it’s over. HELOCs are typically variable-rate loans, meaning the interest rate you pay is based on the market and reset every so often.
3. Convert to a fixed-rate loan
HELOCs generally have variable interest rates, but some lenders will allow you to convert some or all of the amount you borrow to a fixed-rate loan. This has the advantage of locking in your monthly payment, so you don’t have to worry about it rising over time. Keep in mind, however, that some lenders require you to choose this option before the end of the draw period.
4. Renew or refinance
At the end of the draw period, you may be able to renew your HELOC. In most cases, this means you’ll take out a new HELOC that pays off and replaces your old one. You’ll then re-enter the draw period and restart the clock.
Another similar option may be to refinance the outstanding balance. This involves taking out a new loan to repay your HELOC, leaving you with new HELOC terms and a new payment plan. You may refinance with a fixed home equity loan or personal loan, or you could refinance your first mortgage to include the HELOC balance.
5. Make a balloon payment
Some HELOCs require a balloon payment at the end of the draw period. This may be to pay off the full amount, or simply a large payment required because your regular payments wouldn’t fully pay off the loan. A balloon payment could be double your average payment, or as large as tens of thousands of dollars. Be sure to check if your HELOC requires a balloon payment before agreeing to it, since these can often cause problems for borrowers. Don’t count on being able to refinance out of a balloon payment.
You may also choose to do this on your own through a lump-sum payoff option, or by getting ahead on your HELOC payments.
How often can the interest rate change on a HELOC?
With a variable rate loan, the interest rate you pay will change periodically based on overall market conditions. How often this resets varies depending on the lender, so be sure to note how often your rate will change. Your lender may also offer a low introductory rate for a short time.
The interest rate you pay on a HELOC is often tied to the prime rate set by the nation’s major banks and influenced by the Federal Reserve. Your rate could change frequently, such as every month, or potentially stay the same for years.
Your HELOC will typically also have a maximum interest rate you can face, called a cap. Some HELOCs also have caps on how high your monthly payment can increase, and minimum interest rates you can pay if rates fall.
Can I pay off my HELOC early?
If you have the cash on hand, you may choose to simply pay off your HELOC balance at the end of the draw period, in a method sometimes known as a lump-sum payoff option. Typically, you can also make extra payments toward your HELOC balance. Be aware that your loan may have a prepayment penalty if you do this, though many lenders don’t charge them. However, closing a HELOC early, before the end of the draw period, is more likely to cost you a fee.
What happens if I don’t pay my HELOC?
HELOCs are secured by your home, meaning that you face foreclosure if you don’t make your payments. If you think you’ll miss a payment or run into trouble making payments on your HELOC, contact your loan servicer immediately.