What you should know about Home Equity Lines of Credit

A home equity credit line commonly known as a (HELOC) is a second mortgage that is secured by utilizing the remaining equity in the borrower’s home as collateral. There will be a mortgage lien attached to your home. (HELOC) will be a 2nd lien while your primary mortgage will be the first lien.

A (HELOC) can be a smart financial tool that is available for home owners to take advantage off. Many loan officers will inform their customers that the interest on a (HELOC) could be tax deductible. So a lot of home owners will use the (HELOC) to pay off consumer credit card debt.

According to http:// IRS.gov web site home owners should be aware of the following;

1) Any interest that is used to pay off consumer debt which is over $100,000 is not tax deductible.

2) The IRS will review your Fair Market Value (FMV) of your home. Your deductible interest on your (HELOC) is limited to 100% of the (FMV). For an example let assume that the value of your home is $200,000. Your first mortgage balance is $150,000. The largest amount of (HELOC) that would be deductible would be $50,000.

How does the IRS determine (FMV)? In most cases of a (HELOC) the financial institution will conduct a drive by property appraisal to value your home. The loan to value against the properties appraised value will determine the amount of your (HELOC).

Additional factors that will determine what type of (HELOC) that you will qualify for is called the three “C’s”. Credit, capacity, and character. Credit refers to your payment history in your credit report. Capacity refers to your financial ability to pay the (HELOC) off. Your lender will review your sources of income. Character refers to your willingness to pay your debt and bills on time.

Lending institutions will ask the borrower to submit supporting documents with the application. Those supporting documents include your most recent pay stubs, W2 Forms from last year. and 2 years worth of tax returns. Additional documents that your will need include the most recent mortgage bill, the most recent property tax bill, and a current home owner’s insurance policy binder (HOI). If you are paying off consumer debt include copies of the most recent bills and point of contact to pay off those bills.

What is the prime rate of interest? As of July 2009 the prime rate of interest is 3.25%. In July of 2008 the prime rate of interest was 5%. The (HELOC) rate of interest is variable rate based upon the prime rate of interest.

The home equity line of credit is an excellent, flexible financial tool that is available to home owners. As a former loan officer I have seen on too many occasion where the home owner abused the (HELOC). The home owner would pay off their credit card debt with the (HELOC) only to incur greater credit card debt once those credit cards were paid off. Please do not fall into that type of credit trap.