Getting a home equity credit line.

Getting a home equity credit line.

1. Not checking to see if your credit line has a pre-payment penalty clause.
       If you are getting a "NO FEE" credit line, chances are it has a pre-payment penalty clause.  This can be very important (and expensive) if you are planning to sell or refinance your home in the next three to five years.
   
2. Getting too large a credit line.
       When you get too large a credit line, you can be turned down for other loans.  Some lenders calculate your credit line payments based upon the available credit, even when your credit line has a zero balance. Having a large credit line indicates a large potential payment, which makes it difficult to qualify for loans.
   
3. Not understanding the difference between an equity loan and a credit line.
       An equity loan is closed--i.e., you get all your money up front, then make payments on that fixed loan amount until the loan is paid.  An equity credit line is open--i.e., you can get an initial advance against the line, then reuse the line as often as you want during the period the line is open.  Most credit lines are accessed through a checkbook or a credit card.  Credit line payments are based upon the outstanding balance.
       Use an equity loan when you need all the money up front--e.g. home improvements or debt consolidation.
       Use a credit line if you have an ongoing need for money or need the money for a future event--e.g., you need to pay for your child's college tuition in three years. 
   
4. Not checking the lifecap on your equity line.
       Many credit lines have lifecaps of 18%.  Be prepared to make high interest payments if rates move upwards.
   
5. Getting a credit line from your local bank without shopping around.
       Many consumers get their credit line from the bank with which they have their checking account.  Shop around before deciding to use your bank.
   
6. Not getting a good-faith estimate of closing costs.
       Within three working days after receipt of your completed loan application, your mortgage company is required to provide you with a written good-faith estimate of closing costs. 
   
7. Assuming that the interest on your home credit line/loan is tax deductible.
       In some instances, the interest on your home credit line is NOT tax deductible.
       It is beyond the scope of this document to provide tax advice or quote from the IRS code.  Contact an accountant or CPA to determine your particular situation.
   
8. Assuming a home equity line is always cheaper than a car loan or a credit card. 
       A credit card at 6.9% can be cheaper than a credit line at 12%, even after the tax deduction.  To compare rates, compare the effective rate of your credit line with the rate on a credit card or auto loan.
   Effective rate  =  rate * (1 - tax bracket)
       Example:  If the rate of the home equity credit line is 12% and your tax bracket is 30%, your effective rate is12% * (1 - 0.3) = 12% * 0.7 = 8.4%
       If your credit card is higher than 8.4%, the credit line is cheaper.
       Besides the interest rate, you may also want to compare monthly payments and other terms of the loan.
   
9. Getting a home equity credit line if you plan to refinance your first mortgage in the near future.
       Many mortgage companies look at the combined loan amounts (i.e., the first loan plus the equity line/loan) even though they are refinancing only the first mortgage.  If you plan on refinancing your first loan, check with your mortgage company to determine if getting a second line/loan will cause your refinance to be turned down.
   
10.     Getting a home equity credit line to pay off your credit cards if your spending is out of control!
        When you pay off your credit cards with your credit line, don't put your home on the line by charging large amounts on your credit cards again!  If you can't manage the plastic, get rid of it!

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The Most Common Refinance Home Loan Types

It’s important to know your options. There are hundreds of home loan products on the market; all with different fees, interest rates and features. Let’s have a look at the most common home refinance loan types.

Adjustable Rate Mortgage:

As the name suggests, this loans interest rate changes through the life of the loan. The initial interest rate of the loan is fixed for a set amount of years and then it adjusts according to the economic index it is linked to. This means it can go up or down after the fixed interest period. The initial fixed rate of the loan is typically lower then that of a fixed rate home loan. Refinance to this if you are certain interest rates will stay low or drop.

Fixed Rate Mortgage:

This loan fixes your interest rate for a set period of time. This allows you to budget effectively and gives you peace of mind for that period; knowing your monthly payments won’t change. The downside is this loan comes with less features, therefore less flexibility. Most don’t allow you to make extra payments and redraw on the additional funds.

Balloon Home Loan:

A balloon loan is a mortgage with a fixed interest rate for a set period of years. This period of is typically short, around 7 to 10 years. The advantage of the balloon loan is that the interest rate is almost as low as those found with adjustable rate home loan. Refinance to this with caution. The disadvantage is that when the term is up, the loan is repayable in full. Caution and careful planning needs to be taken to enjoy the advantage of this type of loan without being hurt by it's disadvantage.

Home Equity Loan:

These fixed rate loans that allow you to tap into your equity; providing you with the funds to renovate, invest in shares, managed funds etc. The annual percentage rate (APR) will stay the same for the life of the loan, so your monthly payments will never vary. However care needs to be taken with these types of loans as it results in a reduction in the equity you have built up in your home.

Line of Credit:

A line of credit loan basically allows you to draw on your mortgage balance up to the original amount borrowed. So you can tap into the equity you have in your home. In addition, monthly repayments are usually interest only. Essentially, you can borrow what you want at lower interest rates then credit cards and personal loans, and pay it back when you want. Care needs to be taken with this type of loan, as again, you can reduce the equity you have built up in your home.

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