HELOC draw period
HELOC draw period

A home equity line of credit (HELOC) drawdown period is the period of time after a HELOC is opened and before the repayment period begins. HELOC terms vary and a HELOC can be used in many ways. For most HELOCs, the only payments due during the drawdown period are interest payments with no payments due on principal.

Key points to remember

  • The HELOC draw period is the period during which you draw on the line of credit based on the equity in your home.
  • Most payments during the drawdown period are interest-only payments.
  • When the draw period is over, payments due on a HELOC will skyrocket if no principal payments have been made during the draw period.

Introducing HELOC

A HELOC and a home equity loan are based on the equity in your home at the time you get them. To calculate the equity in your home, you will get an estimate of the current value of your home. Next, subtract the current balance of your mortgage and any other existing loans on your home.

Warning

Unlike other forms of unsecured debt, like personal loans or credit cards, HELOCs are secured using your home as collateral, meaning you risk losing your home to foreclosure if you cannot refund your HELOC.

You cannot take out a HELOC or home equity loan for more than 85% of the equity in your home. Less optimal borrowers, such as those with poor credit scores or high debt-to-equity ratios, could access less than 85% of their home equity. For example, if you have a house worth $500,000 with a mortgage balance of $300,000, you will have $200,000 of equity and can take out a HELOC or home equity loan up to 170 $000, depending on your eligibility.

A HELOC and a home equity loan differ in how you can use the equity in your home and how you will have to pay it back. A home equity loan gives you a one-time lump sum payment of the amount you choose, which you repay in equal monthly installments over a set period of time.

A HELOC gives you access to a line of credit up to your set limit. You can use as much or as little of this line of credit as you want during the draw period. You are obligated to make interest-only payments on the balance until the start of the repayment period. At that time, you will have to make payments on the interest as well as on the principal of the credit that you have used.

Deduct interest

Interest paid on a home equity line of credit (HELOC) was tax deductible, but the law changed with the Tax Cuts and Jobs Act 2017. Now, HELOC interest can only be deducted on the amount of HELOC used to “buy, build, or substantially improve” a home.

Additionally, the new standard deduction has been increased to $12,950 for single filers and $25,900 for married couples filing jointly in 2022, from $12,550 and $25,100, respectively, in 2021, which could make the breakdown in order to take a HELOC interest deduction impractical for most. declarants.

HELOC draw period

The HELOC draw period will vary in duration depending on the conditions of each individual HELOC. Generally, a draw period is between five and 15 years, with 10 being the most common. The repayment period is generally longer: between 10 and 20 years.

During the draw period, up to the HELOC limit can be spent. The only payments due on most HELOCs during the draw period are minimum payments that pay only the interest due on the balance.

It is possible for borrowers to borrow continuously up to the limit of their HELOC and repay it repeatedly. This strategy is popular with real estate investors, who will use a HELOC to buy and rehabilitate additional properties, then pay off the HELOC so they can buy more properties without taking out additional loans.

Any additional principal payments made during the HELOC Drawdown Period will reduce the payments due during the HELOC Repayment Period. During the draw period, your online account through your HELOC agent should show you estimates of what your monthly payment will be during the repayment period.

What happens at the end of the HELOC draw period?

Once the draw period on a HELOC is reached, no more money can be spent on the line of credit. Payments due will increase significantly to include payments toward principal so that principal and interest are repaid by the end of the HELOC repayment period.

Many borrowers are unprepared for these payments to increase, so they will open new lines of debt to pay off the existing HELOC. This is called reloading debt and it can lead to a vicious cycle that is hard to break. You can prepare for your HELOC repayment period and avoid reloading debt by making payments on your HELOC principal during your drawdown period. Before the drawdown period ends, make sure there’s room in your budget to pay off your HELOC when your payments increase.

Turning a HELOC into a new HELOC, home equity loan, or cash refinance can be an attractive option, but it reduces the equity in your home, which can quickly cause you to lose your mortgage. Make sure the money you use during your HELOC draw period is spent on things that are really needed.

The essential

Make sure you know the terms of any HELOCs before signing up. Be aware of the length of your drawdown and repayment periods, and ensure that there are no prepayment penalties if you choose to make additional payments towards principal during your drawdown period.

During your draw period, log in regularly to see what your payout period will be and budget accordingly so you can afford the increase. Before taking out loans or lines of credit that use your home as collateral, consider the ramifications if you can’t afford to pay them back.

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