What retirees should know about equity lines
Home Equity Lines of Credit (HELOCs) are usually simply called equity lines. Contrary to what many people think, HELOCs are mortgages. The property is the collateral for the loan and a mortgage is secured against the property and recorded with the city or town where the property is located.
Usually, these are adjustable rate loans. That means the rate is subject to change. Important things to know are the index the rate changes are based on, how often can the rate change, in what increments, and whether there is a cap on how much it can increase.
Many HELOCs are for 10 or 15 years with only interest payments required for a portion of that term. Then the loan resets and interest plus principal payments are required for the duration. It is very important to understand if and when the loan resets, what impact that can have on your payment amount, and whether you will still be allowed to borrow from the HELOC after that. Since the payment can increase by two or three times, this is critical for retirees to understand so they have an effective strategy for repaying the loan.
Another thing to consider is the source of your payment. If you are drawing from a tax-deferred plan to make your HELOC payments, don’t forget those withdrawals will be taxed as income. That can also decrease any state subsidy you are now getting on your property taxes.
These loans come due in the future. For example, if you take a 15-year loan when you are 65, the loan has to be paid back when you are 80 years old. Knowing how you are going to pay back that money is crucial to making a HELOC fit into your overall retirement income strategy.
If you are setting up your equity line as a reserve fund for the future, you will want to be assured the money will be available later. Be sure to ask if the lender can cancel or call (demand early payment) prior to the maturity date. If so, under what conditions? If the policy of your lender is to automatically renew your loan every five years, confirm what automatic means. Better yet, ask to see where that promise is written in the note and mortgage you will be getting.
Other questions to ask are, what happens to your HELOC if you have credit problems in the future? If real estate values go down, can the lender freeze or limit your loan in any way? What if someday the lender goes out of business or simply decides they don’t want to have HELOCs in the area where your property is located? What happens then?
Finally, what other options should you be considering besides a traditional HELOC? Would a fixed-rate HELOC be more suitable? What about a regular fixed-rate mortgage or a reverse mortgage?
As with any important financial decision, do your research, explore all your options, involve trusted advisors, and deal with people and companies you are comfortable with. Please keep in mind, different lenders can have different rules, policies, and procedures. This is meant to provide general information, not specific guidance about any lender or loan.
Aging in Place, it doesn’t happen by accident. It takes money and you need to know how to manage it.
Scott Funk is Vermont’s leading Aging in Place advocate, writing and speaking around the state on issues of concern to retirees and their families. He works as a Home Equity Conversion Mortgage and HECM for Purchase specialist. You can access previous Aging in Place columns and Scott’s blogs at scottfunk.org. His e-book is available on Amazon.