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The process of a HELOC
Hey BP,
I'm truly trying to get a firm grasp on how a HELOC works. My wife and I are currently considering taking one out on the property we live in to purchase our first rental property. The problem is I'm still unsure of how it all comes together. Is there someone whose gone through this process actually lay it out for us? Any pitfalls to look for? Etc.
Thanks BP
Hi BP,
I am interested in this topic too.
Thanks.
Its like a big credit card. Usually the underwriting process is a bit easier. They will extend a credit from the equity of your home and you can withdrawal as you please, and then put it back whenever. This way you dong have to keep refinancing your house to get cash for deals. It is usually interest only payments for about 10 years to which you need to put the entire principle back. The interest rate is usually variable so sometimes It can get a bit scary. My apologies im a bit scatterbrained this morning but I hope this helps at all.
Following as well as this is an option for us.
Could someone run through with some numbers? Like house appraises at 250k, have 100k in equity, and get approved for 80k line of credit in the HELOC (80% of equity)?
Also, how does the interest only payment work? My reservation is that you take money out of a HELOC to put down on a rental property, but now you have two payments (one to pay back the HELOC and one to pay the mortgage). Wouldn't that just kill most of the cash flow?
@Michael Spence . As mentioned by @Alex above, based on how much equity you have in your house, you will get a "Credit Card", whose interest rate is usually variable. You can call you bank and ask them for the paperwork they will need. It usually doesn't take long to get approved and have it processed. Last time I did it, there were closing costs associated with it, so it is not free. I'm sure we have some lenders here who can explain it better.
Good Luck !!!
My understanding is that some lenders have options to lock the rate to a fixed rate at the time of "closing"/final approval process. you just have to ask around to see which of the banks has a better rate and also will give you the option to have a fixed rate. You only pay interest on the amount you take out at a time and once it's paid back you can reuse it again, making it better than home equity loan.
@Ryan,
Those are my concerns as well. On top of my mortgage payment for my house that I'm living in, and 2 additional payments; 1 for the HELOC and 1 for the rental property.
Thank you for your response; it seems the variable rate is quite common
So are you saying I'm not charged with paying off the HELOC, but only the interest that's associated with the total amount?
With a HELOC you only pay interest on the amount of money you are actually using not the total line.
So if you have $80k line of credit and you only use $20k for a down payment you only pay interest on $20k.
@Ryan Cole, you need to look at the combined loan to value CLTV. So in your example if the lender will only go to 80% CLTV you would only be able to get a HELOC for $250k * .80 = $200k minus your first mortgage ($150k) = $50k HELOC.
The great thing about a HELOC is that if you do not draw on it then you do not pay interest on it. It is ideally suited for fix and flips and BRRRR where you can take advantage of cycling the money without having to ask someone to borrow it. It is not good for buy and holds will you will be quickly tapped out, over leveraged, and with a variable rate that will only go up and then reset at the end of the draw period.
@Michael Spence, some HELOCs are interest only and some have a minimum payment. Know what you are getting because the difference in the monthly payment can be substantial. In both cases it only counts during the draw period. At the end of that you will either have to pay it off in full or over some period of time. If the second case it will convert to an installment loan and your payment will jump substantially from an interest only payment.
@Temitope Adebayo, I'm not sure what product you are talking about. It sounds like the option some lenders offer to lock the rate of an outstanding balance on the HELOC. This fixes the rate, but also coverts the loan into an installment loan so your payments will increase and you will no longer be able to draw on the line of credit. It essentially converts the balance from a HELOC into a home equity loan HEL.
My understanding is that you are only charged interest on the amount taken out of HELOC. You can pay off the HELOC and owe $0 but it's still considered open until you file to close it with your lender. If you have a HELOC for $80K and you take out $40K to use on the new property, then you only pay interest on the $40K.
I bank with chase and they will give you the option to lock into a fixed from a variable for the draw period.
Thank you all for your responses
So just so I got it:
- it probably wouldn't benefit me to use a HELOC for a rental property as the cash flow wouldn't be substantial enough and I'd have to continually pull from the HELOC
- Even if I do receive a HELOC for 80k, if I pulled 50k from it, I'd only be responsible for INTEREST ONLY of the 50k I pulled
- their will be closing costs
Does that about sum it up?
Thanks again everyone
@Temitope Adebayo, I looked it up. https://www.chase.com/home-equity/line-of-credit.
That is going to work like I described above. You can lock up to 5 outstanding balances on your HELOC. Those balances will convert to a fixed rate, but it will be higher than the variable rate. You will also have to start making interest an principle payments on that portion of the balance so your payment will go way up. It will also subtract from the the amount you can borrow on the HELOC by the amount of the outstanding balance until that balance is paid off. I could not find what the terms of the fixed portion would be, specifically how long they amortize it over.
@Michael Spence I've inquired with a few banks the past 6 months, and so far none of them had said there was a closing cost to a HELOC. They said there are only closing costs with a home equity loan rather than a HELOC.
I'm by no means an expert and am just speaking on my experience talking with a few banks, but that is the only thing I noticed may not always be true.
@Edward B. thanks for the explanation on the 80%! Now that you say it, I think I have heard that before but couldn't remember how the math worked.
1) It depends on the deal. If you buy right the cash flow could cover everything. It is just more difficult with the more debt you are carrying. And the HELOC payment will go up with interest rates and at the end of the draw period so you have factor all of that into your analysis.
2) That depends on the terms of your HELOC. If it is interest only during the draw period then yes. Some HELOCs have a minimum payment though such as 1.25% of the outstanding balance. These are more common for high CLTV products.
3) Many institutions are offering to pay most if not all of your closing costs. You can usually get one for for much much less than a standard residential mortgage. To the tune of only a couple hundred dollars or less.
https://www.biggerpockets.com/blogs/8129/51407-what-you-need-to-know-when-shopping-for-a-heloc
A HELOC is a loan you take against equity on your property. Each bank can be a little different so it is good to talk to a couple local banks. The HELOC is secured against your property.
I took out my HELOC and the bank told me they would approve to 60% of value without an appraisal or 80% of value with an appraisal. I chose to avoid the appraisal to keep costs down. There was a fee to open the loan and the interest rate is 1% over prime. It is a variable rate, so every time they raise prime, my rate goes up. The "closing" was just done at the bank and we signed paperwork with the banker so no closing company involved.
Once the account is open, I am free to write checks from it for any amount up to the approval amount. If I leave the balance at $0, then there is no payment. The minimum monthly payment equals the interest only. If you only pay the minimum payment, you will never pay the balance off. You need to be disciplined to pay part of the principal too.
Many people use a HELOC to make fast "cash" offers on properties, then refinance the balance from the HELOC into a mortgage on the property. Another strategy is to use the HELOC to help with the down payment. Others use a HELOC to subsidize rehab costs for a refinance on a property.
@Michael Spence in your situation with a smaller limit, it would probably be used for down payments or rehab. It is not a bad thing to have in your back pocket, but generally it is a short term financing tool. Any long term debt will generally be better on a fixed rate mortgage.
Thank you for that article. This thread gave me some important answers and that article was the icing on the cake
Thank you for your response.
And to everyone that responded, I truly appreciate it!
Hey guys!
A lot of great information in this thread. Thanks for all the input. I'm in the same boat. I have a home with about 65,000 in equity so I think I'll reach out to some local banks about my options. I definitely understand that using a HELOC is better for short term, so I'll keep that in mind. As stated above, it's best for quick flips and potential rehab costs.
Are there fees involved with setting up a helix?
Heloc
I love HELOC. If you go with right bank, there shouldn’t be any closing costs, appraisal fees or any type of fees. I have around $150K in HELOC and I am using that to acquire properties and doing BRRR by refinancing the property and getting most of the money out. Basically, rinse and repeat this model and leave may be 10-15% of money in the deal instead of typical 25% down for investment properties.
