BUSINESS ERA

What's the difference?

A HELOC is a form of revolving credit similar to a credit card. It allows you to draw funds, up to a predetermined limit, whenever you need money. There is generally a minimum payment due each month, with the option to pay off as much of the line as you want. With a HEL, you receive a lump sum of money and have a fixed monthly payment that you pay off over a predetermined time period. In each case, the amount you can borrow is based on factors such as your income, debts, the value of your home, how much you still owe on your mortgage and your credit history.

Benefits

The appeal of both of these types of loans is their interest rates, which are almost always lower than those of credit cards or conventional bank loans because they are secured against your home. In addition, the interest you pay on a home equity line or loan is often tax deductible (consult a tax advisor about your particular situation).

Which is best for you?

Generally, a HELOC is a good choice to meet ongoing cash needs, such as college tuition payments or medical bills. A HEL is more suitable when you need money for a specific, one-time purpose, such as buying a car or a major renovation.

Comparing the costs

Both HELOCs and HELs usually carry a higher interest rate than that of a first mortgage. With a HEL, you may choose either an adjustable rate that fluctuates according to variations in the prime rate, or you may opt for a fixed rate. A fixed rate enables you to budget a set payment monthly without worrying about increasing costs should interest rates rise. With a HEL, there are also closing costs that you should consider.

A HELOC usually carries a lower initial interest rate than a HEL, but its rate fluctuates according to the prime rate, so there is more interest rate risk. Unlike a HEL, where your monthly payments are a set amount, a HELOC enables you to borrow funds as needed and repay as little as interest only each month. In addition, there are generally no closing costs when you open a HELOC.

Keep in mind, your home is the collateral for both a HELOC and a HEL. If a HELOC's easy access to cash tempts you to run up more debt than you can repay, or if you fail to make your payments, you risk losing your house.

Source:realestate

Tighter lending standards have made refinancing a home more difficult, even for some well qualified borrowers.

You’ll want to be familiar with these standards before you make any life changes; such as a change in career, or a move to a new community.

Why is it important to understand what it would take to qualify before you try to refinance a home? Here’s one way it could catch you off guard:

He and his wife owned several rental properties in addition to their home. To fund the start up costs of his new business, he had planned to refinance a home or two, but he just didn’t get around to it before he left his corporate job.

Bob didn’t realize that qualifying for a mortgage as a self-employed person was much different than qualifying when you had a salary. Without two years of documented income in his new line of work, he was gong to have to pay a higher interest rate than he had anticipated. Refinancing a home no longer made sense for him.

Don’t let yourself get caught off guard. If you meet all of the following criteria, than when it comes time to refinance a home, you’re probably in good shape:

• 20% equity in your home
• Credit score over 600
• Loan amount less than $417,000
• Two years of documented income (via tax returns if self employed. W-2 income if you work as an employee.)
• Total debt payments, not including the mortgage, are less than 33% of gross income
• Total debt payments, including the mortgage, are less than 45% of gross income

You still need to be cautious: changes in the way lenders value property may mean you have less equity than you think.

Below are the three major changes in mortgage lending that you need to know about before you refinance a home:

Conservative Valuations /Appraisals

Part of the appraisal process involves looking at comparable properties or “comps”: other properties like yours that have been recently listed or sold. This helps the lender determine the current market value of your home.

What’s different now?

More distressed properties: It used to be that if a property under foreclosure showed up in your comps, you were allowed to throw it out. Not today. There are too many bank owned properties on the market. Their lower listing and sales prices will affect the appraised value of your home.

Declining markets: If the lender determines you live in an area determined to be a “declining market’ they can decide to reduce the appraised value of your home by an additional 5 – 10%. This means even if your appraisal shows you have 20% equity in your home, the lender may not accept that.

No Market for Second Mortgages: Means More Money Down or Higher Monthly Payments

Private mortgage insurance (PMI), has always been required for borrowers with less than 20% equity in their home. Its purpose: to protect the lending industry against defaults. The cost of this insurance was added on to the buyer’s monthly payment.

Aggressive lending tactics allowed many buyers to bypass this cost by using a second mortgage. For example, if they were refinancing to get a lower interest rate or take equity out, they could take a first mortgage for 80% and a second mortgage for 10%.

The ability to structure this type of loan has all but disappeared. Lenders are no longer willing to take this risk.

If you have less than 20% equity in your home, expect to pay for PMI insurance.

Some home equity lines of credit will allow you to take up to 75% of your home’s value (using conservative valuation criteria), but you’ll be hard pressed to find anyone willing to lend more than that.

One borrower, faced with rising interest rates and a rising house payment, had a mortgage broker help her find a creative solution.

Solution to a Refinance Problem

Bruce Young, a Mortgage Banker with People’s Mortgage, was working with a credit challenged borrower who had taken a subprime loan a few years ago, as it was the only option she qualified for at the time. The loan was now adjusting with highly unfavorable terms that pushed the new payment higher than was affordable for her.

Due to declining real estate values, she no longer had 20% equity in her home. Due to the lack of equity in her home, lenders were not willing to refinance her home unless she could come up with some cash to contribute at closing.

The solution: she borrowed money out of her 401k plan in order to put the required amount of equity in to qualify for her refinance.

The net savings in her monthly mortgage payment was enough to allow her to set up a repayment schedule for the 401k loan and remain in her home.

Must Have Documented Income

Stated income loans allow borrowers to omit or reduce some of the documentation that conventional loans normally require. For those who are self employed, or recently started a small business, this means they can refinance a home without having to show W-2’s and/or two years worth of tax returns.

While stated income loans are still possible, expect to pay a rate of 1.5% - 3% higher than those who can document their source and stability of income. In addition, you must have better credit scores and higher loan to value ratios than required for conventional loans.

If you are planning on leaving a corporate job, look in to purchase or refinance options while you can still document your income. Once you’ve got the loan they can’t come back and ask you to re-qualify.

A home-equity loan, also known as a second mortgage, lets homeowners borrow money by leveraging the equity in their homes. Home-equity loans exploded in popularity in 1996 as they provided a way for consumers to somewhat circumvent that year's tax changes, which eliminated deductions for the interest on most consumer purchases. With a home-equity loan, homeowners can borrow up to $100,000 and still deduct all of the interest when they file their tax returns. Here we go over how these loans work and how they may pose both benefits and pitfalls.

Two Types of Home-Equity Loans

Home equity loans come in two varieties - fixed-rate loans and lines of credit - and both types are available with terms that generally range from five to 15 years. Another similarity is that both types of loans must be repaid in full if the home on which they are borrowed is sold.

Fixed-Rate Loans
Fixed-rate loan provide a single, lump-sum payment to the borrower, which is repaid over a set period of time at an agreed-upon interest rate. The payment and interest rate remain the same over the lifetime of the loan.

Home-Equity Line of Credit
A home-equity line of credit (HELOC) is a variable-rate loan that works much like a credit card and, in fact, sometimes comes with one. Borrowers are pre-approved for a certain spending limit and can withdraw money when they need it via a credit card or special checks. Monthly payments vary based on the amount of money borrowed and the current interest rate. Like fixed-rate loans, the HELOC has a set term. When the end of the term is reached, the outstanding loan amount must be repaid in full.