Are you looking to repair your home or consolidate your debts? Some homeowners are now considering a home equity line of credit or HELOC – especially if they’ve seen those starting HELOC rates advertised for around 2% (see the lowest HELOC rates you could qualify for here). But to get those rates, you’ll need a certain credit score, as well as other qualifications, and often those rates are just teaser rates, so you’ll pay later. That said, many HELOCs have relatively low rates, especially compared to other options like personal loans, and they can be a good option for some. Here’s what you need to know.
What is a HELOC?
A HELOC is an indefinite term line of credit, secured by a borrower’s home. HELOCs work similarly to credit cards in that you borrow as needed (rather than getting a big lump sum loan, like you would with a home equity loan), up to a certain limit.
Their advantages? A HELOC can allow a borrower to pay important and necessary expenses at a lower interest rate than a high interest credit card or many personal loans. “HELOCs are one of the most flexible borrowing tools,” said Russell Randolph, head of direct consumer lending at SunTrust, now Truist. “A borrower does not need to know the final cost of the renovation at the time he obtains the line of credit, can pay the contractors as the work is completed and jump at any opportunity or change his notice during the project.”
But while a HELOC may attract with its lower introductory interest rates (see the lowest HELOC rates you could qualify for here) compared to those of a home equity loan, there are a few disadvantages. Although home equity loans are likely to be fixed rate, most HELOCs have variable interest rates. This means that a borrower’s monthly payment may change during the repayment period, which could lead to sticker shock. This guide will give you more details on HELOCs.
What kind of credit score do I need to get a HELOC?
Having a good credit rating shows lenders that you are a responsible borrower who is likely to make payments on time and pay off your debt. And the higher your score, the more likely you will get better terms. Indeed, experts say that many lenders require a credit score of at least 620 to 660 to grant you a HELOC, and a score of 720 to 740 and above to give you the most favorable rates and terms. This guide will help you improve your credit score faster.
What other factors besides credit score go into the rate you can get on a HELOC?
The good news is that your credit score isn’t the only thing that matters for getting a lower HELOC rate. The more equity you have in your home (the appraised value of your home minus the remaining balance on your mortgage), the more flexibility you can have if your credit score needs to improve. Most lenders want to see that you have at least 15-20% equity in your home.
A lender will also look at your debt-to-equity ratio, which is a way to compare your monthly income with your monthly debts. They want this ratio to be generally below 43%, but it varies. Calculate this using this equation: Total monthly debt payments ÷ gross monthly income = DTI.
Your lender can also review your history of paying your bills on time. A long history of on-time payments will work in your favor when applying for a HELOC. Transitioning your bills to automatic payment, even for the minimum amount, can improve your late payment history and improve your case.