HELOC with Variable Rate
We have 50k cash available for down payment and own a property free and clear so would like to make use of a HELOC either for additional down payment, Reno's OR if we have all our cash tied up in a down payment using the HELOC as an emergency fund.
I'm concerned about the variable rate on most HELOCs. I'm trying to pay off HELOC money in 1 year or less which depending on the amount invested can be a heavy monthly payment.
Can someone that has used HELOCs extensively explain to me how they go about using that money either for down payments OR an emergency say a water heater OR a health issue? And can/do your variable rates change that quickly? As in 1 month paying 3.99 the next you're at 6.5 for example?
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@Patrick M. A common way for banks that offer HELOCs to determine the variable rate is to base it on the Prime Rate plus a small margin. For example, I just pulled a random lender up near me and here's what they're offering:
2.99% intro rate fixed for 12 months. After that, the rate will be Prime + a margin. Currently 5.5%+1%=6.5%.
You can see the history of the Prime Rate here to get an idea of how it moves: http://www.fedprimerate.com/wall_street_journal_prime_rate_history.htm
Note that it hasn't fluctuated more than 2% in the past 10 years, and doesn't typically move up or down very fast, so it's highly unlikely you'd ever see a jump from 3.99% to 6.5% in a single month. (I believe an increase like that has only happened one time in the entire history of the Prime Rate and that was way back in 1980.)
Lenders will also often have rate caps. For example, one lender that I have a HELOC with states: "Home equity interest rates are tied to the prime rate, a standard index used as a basis for determining the rate charged on borrowed money. If the prime rate increases, so does the APR on the line of credit. But with our rate caps, the variable rate on your line of credit will never increase more than 2% annually based on the date you signed your line of credit agreement. The rate will also never be more than 7% higher than where you started." So ask your lender if they have something like that.
Lastly, lenders often offer the option to lock in fixed rate advances for purchases with your HELOC too, so you can ask your lender about that as well. That way, if you know you'll be making a big purchase that might take you some time to pay off and you want to lock in a low interest rate, you can lock in that rate. They may even offer you a special lower rate. I regularly receive special offers from one of my HELOC lenders to lock in a fixed rate at 2.99% when my normal variable rate is more than double that. So that's something else to consider.
We have HELOCs on two properties (primary res & rental) and use them for all the purposes you have described, including purchasing a buy/hold property outright at approx. $250K to acquire it and then finding traditional financing after. I personally love HELOCs. Ours do have a variable rate, but they really don't change that quickly (at least in the last 20 years). Over any given time, if they've gone up 1% in a year, that would be about all (at least in our case). For us, that's still less than other money sources, e.g., hard money, credit cards, short term loans, etc. I like the convenience that after the HELOC is set up and available, you can use funds from it, pay it back, rinse and repeat, as many times as you like without having to reapply for loans, justify to someone why you want to use that money, etc. We also have our HELOCs and primary bank accounts through the same bank, so are able to electronically transfer funds in and out of accounts daily (hourly if we wanted), which we do (quite often daily) to take $$ out of accounts with larger availability of funds to pay down HELOCs with interest rates, to save interest on a daily basis, and then retransfer from the HELOC back to the primary account when it's needed to pay bills, etc. A word of caution, you have to be disciplined to mix funds like this to make sure you've accounted for where everything is supposed to be and be disciplined to pay the HELOC off in a timely manner to not get stuck paying a ton of interest over time.
Thank you for the response. Currently I'm applying for a HELOC through the same bank we currently use for the easy transfer as you described. I'll be less worried about the variable rate as well.
@Patrick M. A common way for banks that offer HELOCs to determine the variable rate is to base it on the Prime Rate plus a small margin. For example, I just pulled a random lender up near me and here's what they're offering:
2.99% intro rate fixed for 12 months. After that, the rate will be Prime + a margin. Currently 5.5%+1%=6.5%.
You can see the history of the Prime Rate here to get an idea of how it moves: http://www.fedprimerate.com/wall_street_journal_prime_rate_history.htm
Note that it hasn't fluctuated more than 2% in the past 10 years, and doesn't typically move up or down very fast, so it's highly unlikely you'd ever see a jump from 3.99% to 6.5% in a single month. (I believe an increase like that has only happened one time in the entire history of the Prime Rate and that was way back in 1980.)
Lenders will also often have rate caps. For example, one lender that I have a HELOC with states: "Home equity interest rates are tied to the prime rate, a standard index used as a basis for determining the rate charged on borrowed money. If the prime rate increases, so does the APR on the line of credit. But with our rate caps, the variable rate on your line of credit will never increase more than 2% annually based on the date you signed your line of credit agreement. The rate will also never be more than 7% higher than where you started." So ask your lender if they have something like that.
Lastly, lenders often offer the option to lock in fixed rate advances for purchases with your HELOC too, so you can ask your lender about that as well. That way, if you know you'll be making a big purchase that might take you some time to pay off and you want to lock in a low interest rate, you can lock in that rate. They may even offer you a special lower rate. I regularly receive special offers from one of my HELOC lenders to lock in a fixed rate at 2.99% when my normal variable rate is more than double that. So that's something else to consider.
It is a good rate, even better when you consider the property that this particular HELOC is tied to is a rental property. :) Usually you only get the best rates on owner-occupied properties.
Anyway, since it sounds like you're calling around and talking to different lenders, here's a blog post I wrote a while back that might be helpful to you: What You Need to Know When Shopping for a HELOC.
Good luck.
@Kyle J. , thanks for your posts and your article on HELOCs. I'm looking at getting my first HELOC and am finding a lot of your information useful. Do you mind sharing the lenders that you've found to be the most competitive for fixed rate HELOCs? I'm hoping they might be available to residents of all states, or at least where I live in California :) Also, was the 2.99% fixed rate special offer you alluded to above only fixed for a short amount of time or for the full repayment period? The best I've found so far is 3.99% at a couple different credit unions: 1) Bethpage FCU but it is only for the first year 2) at American Heritage Credit Union but it is just for a 5 year amortization following a 3 year draw period. thanks, Rob