HELOC with Variable Rate

[Patrick M.]

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? 

[Kyle J.]

@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.