Line of Credit Amount: how much you are taking out from the line of credit. While the line of credit allows you to withdraw money in small or large amounts whenever you wish, the calculator assumes you will only make one withdrawal. This is for the sake of illustration, to keep it from getting too complex. The calculator lets you choose amounts between 25,000 and 1,000,000.
Interest Rate: the interest rate you will pay on the line of credit.
Draw Down Period: the amount of time you will have to pay off the money; that is, the time between you draw on the line of credit and the expiration of the line of credit. If you draw on the line of credit on the first day you get the line of credit, and it has a 5-year maximum draw period, you would enter 5. If you drew on the line of credit one year after getting it, the draw period would be 4.
Additional Principal Payments: Making extra payments against principal will cut down on the interest you owe. For the sake of simplicity, the calculator only lets you make either a single extra payment or a recurring extra payment each year. In reality, your home equity line of credit may allow you to make monthly additional payments.
Principal Payment Amount: the amount you will pay in the additional principal payment above. The calculator only allows you to select a single amount for the sake of simplicity.
Start Principal Payments in Year: Enter how many years from the time you draw on the line of credit to when you make the first additional payment.
Home Equity Lines of Credit Advantages
- Low interest. In comparison with just about any other kind of loan or credit, a home equity line of credit is low-interest. Why? Because unlike other loans and lines of credit, a home equity line is secured with your home. That is, your home is used as collateral. If you don't make payments on the home equity line of credit, the bank, credit union, or lending company can take your home. That fact means that people default on (fail to pay) home equity lines of credit much less than they do with, for instance, traditional credit cards. For that reason, creditors (banks, credit unions, and lending companies) can afford to charge much lower interest.
- Option not to borrow. With a home equity loan, you have to pay interest on the outstanding balance, regardless of what you do with the money. If for some reason it turns out you won't need the money you thought you'd need when you first applied for the home equity line of credit, you don't have to pay unnecessary interest: just don't draw on the home equity line of credit.
- Tax advantages. The interest on the home equity line of credit may be tax-deductible, whereas interest on other kinds of debt rarely is tax-deductible. The important word here is "maybe" since there are a variety of factors to consider, particularly your income. You may want to speak to an accountant if you are counting on the home equity line of credit interest to be tax-deductible.
Home Equity Line of Credit: Disadvantages
- Risk. The ultimate risk of a home equity line of credit is that you will somehow fail to make payments and will lose your home. For that reason, you should only use a home equity line of credit for very important purchases. Also think hard in advance about whether you'll be able to make payments. Unfortunately, financial institutions that issue home equity lines of credit sometimes give people more than they can pay off.
- Fees. Compared with other kinds of credit and loans, a home equity line of credit requires extensive fees at the time of application. These fees include not only a basic application fee, but may also include title search and appraisal fees. That's because the bank, credit union or lending company has to make sure your home is worth as much as you say it is, and that costs money.
- Other fees. Some home equity lines of credit come with substantial one-time fees. Some come with annual fees. Make sure that a low interest rate is not masking high fees.
Home Equity Line of Credit & Retirement
Many people take out a home equity line of credit right before they retire. Why?
- To have money readily available in case of an emergency, at a time when one's regular income may be limited.
- Qualification. Once you are retired and no longer earning a regular income, you are much less likely to qualify for a line of credit, or any other kind of loan, debt or credit. After all, what would you pay it back with? At least, that's what the creditor may worry about. So, many people make sure they have gotten a home equity line of credit just in case they ever need credit once retired.