How to Qualify for a HELOC
If you've built up equity in your home, a home equity line of credit (HELOC) is a convenient way to gain ready access to cash and give yourself a financial safety net.
But maybe you're not sure if you meet the qualifying criteria. A HELOC is a kind of second mortgage, so the qualifying process is similar to when you took out your original home loan. Read on for full details about how to qualify for a HELOC!
What Is a HELOC?
A home equity line of credit is a type of revolving credit, like a credit card. The credit line lets you leverage the equity in your home and gain access to cash for renovations, weddings, debt consolidation, and more.
Here's what you need to know:
- Your HELOC comes with a maximum loan amount or credit limit.
- The draw period is the time you have to use the funds (7 years).
- The repayment period is the time you have to pay back the funds (15 years).
- You can use any portion of the funds on an ongoing basis.
- You only pay interest on the funds you use (not the full loan amount).
- The interest may be tax-deductible if you use funds to substantially improve your home.
- There's no prepayment penalty if you pay off the funds sooner than 15 years.
What You Need to Qualify for a HELOC
So how do you qualify for a HELOC? There are a few factors that go into determining whether or not you will be approved for a HELOC. It's a good idea to do some research and get your finances in the best possible shape before you apply.
Good Credit – The Higher the Better
You've already got a home loan so your credit score must be looking good. To qualify for your HELOC, a score of more than 700 will put you on solid ground. Plus, you'll get a better interest rate! If your score is around 660, you may still qualify but your interest rate will be higher.
Good DTI Ratio – The Lower the Better
Your debt-to-income (DTI) ratio will also impact your ability to qualify for a HELOC. DTI shows what percentage of your income goes towards paying debts.
You're more likely to qualify for your HELOC (and get a lower interest rate) if your DTI is under 40%. But you may still be able to qualify as long as your DTI is under 50%.
Have Enough Home Equity – About 20%
This is the most important consideration because you can't qualify for a HELOC if you haven't built up enough home equity. Depending on your lender, you may need about 15% to 20% equity.
To get an idea of how much equity you have in your home:
- Find out the current market value of your home. For example, $350,000.
- Subtract your current mortgage balance: For example, $250,000.
- Your equity is the difference: $350,000 - 250,000 = $100,000.
- To turn this into a percentage: $100,000/$350,000 = 29% equity
- To calculate loan-to-value (LTV) ratio: $250,000/350,000 = 71%
So does this mean you can get a HELOC credit limit of $100,000?
The answer depends on how you found out the value of your home. If your local credit union orders a full appraisal, you might be able to borrow 100% of your equity. If you use a tax assessment, you may borrow up to 75%.
PRO TIP: It's a good idea to borrow less than 100% of your equity to protect you in case property values decrease.
How to Prepare Your HELOC Application
Now we get to the most important part of our guide on how to qualify for a HELOC. Before you hit the apply button, it's worth taking the time to get all your ducks in a row so you'll improve your chance of success!
- Gather up recent versions of all the documents you provided for your home loan, including pay stubs, bank statements, tax returns, ID, and proof of address.
- Find out your credit score and take any possible steps to improve it.
- Add up your total income and total debts and see if there's any way to bring your DTI down.
- Find out the market value of your home through a full appraisal or tax assessment.
- Talk to your trusted financial partner about whether a HELOC is right for you!
Choosing a HELOC with Great Rates and Terms
Like everything, HELOCs come in all shapes and sizes so you want to find one that suits you and your family. Be sure to choose a HELOC with the right limit for your needs and a competitive APR.
At Members Heritage Credit Union, we provide low-interest HELOCs with generous terms so our members can easily pay for home improvements, college, and everything else that life throws at them.
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