HELOC’s & Piggy-Back’s: 

HELOC’s, formally known as Home Equity Lines of Credit, were once as easy to get as a loaf of bread. But, when the economic crisis hit in late 2006, they were the first mortgage product to become extinct. Now, thanks to higher home values, consumer and lender confidence, and now, higher interest rates, they have emerged once again.

HELOC lending has steadily increased during the past few years . Once used to finance 100% or even 125% of the value of the home, today’s terms are more conservative and they are only offered by only a few lenders. But, they are an important mortgage product to the housing market once again.

How Does a HELOC work?

Home improvements and a down payment to buy a new home are the most common uses. A HELOC is typically a second mortgage that gives the borrower the ability to use the equity in their home if and when it is needed for just about any purpose. The borrower can use all or part of the line of credit and only make payments on the portion used. If the HELOC is paid back in full or in part, it can be used again later. Once again, payments are made only on the used portion. Minimum payments are typically Interest-only for the first 10 years but borrowers can make principal payments at any time without penalty if they choose to pay the principal down. After the initial 10-year period, they convert to an amortizing loan requiring principal + interest payments until completely paid off at the end of 25 or 30 years. The interest rate is always variable and tied to the Prime rate plus an additional margin.  Currently, the Prime Rate is 3.75% and the margin typically charged by banks is 1.5% for a total rate of 5.25%.  Most HELOC’s come with no closing costs.

Piggy-Back Loans to Purchase a Home

Homebuyers use a combination first and second mortgage or “piggy-back Loan” to purchase their home. Borrowers might take out a first mortgage up to 80% of the purchase price and a HELOC for 10% for a total of 90% financing. This enables the buyer to not only avoid the expense of Private Mortgage Insurance (PMI) but also to reduce the down payment. These are known 80/10/10 loans. Today’s HELOC’s are typically limited to 90% or sometimes 95% of the purchase price, still requiring a small down payment.

The main advantage of a HELOC is allows a homebuyer to take advantage of the lower interest rates available for loans up to the Fannie Mae/Freddie Mac maximum limit of $424,100 – to $636,150 depending on the local market. If the Purchase price is such that the buyer wants to finance more, they may use a HELOC or “Piggy-Back” financing for the extra amount needed. When used to finance more than 80%, it also serves to eliminate the need and expense of Private Mortgage Insurance.

Qualifying for a HELOC:

In addition to a minimum down payment or equity, these loans are usually restricted to the borrower’s primary residence or second home, require minimum credit scores of 700 and the borrower must qualify with the HELOC payment factored into their qualifying Debt-to-Income ratios. Maximum loan amounts are usually $250,000 - $350,000 not to exceed 90% to 95% of the value of the property when considered with the first mortgage balance. HELOC’s can also be used as a first mortgage when no first  mortgage exists.

 

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