Home equity lines of credit, also known as HELOCs, are credit accounts based on your home equity that remain open for an extended period of time. Lenders use the portion of your home that you already own to secure the line of credit, which you can use to pay for home improvements, make purchases or pay off high-interest bills.
Home equity lines of credit vary in length based on several factors. Most banks offer HELOCs that have a 20-year term, though it's not uncommon to find a home equity line that lasts as little as five years or as long as 25 years. The term represents the full lifetime of the loan, which means that by the end of the term you'll need to have paid back the full amount of the principal you borrowed as well as any interest.
The term of a home equity line of credit may consist of two separate time-based components, known as periods. The draw period is the name of the time during which you can make charges against the line of credit. The draw period for a 20-year HELOC might be 10 years. The remaining time is known as the repayment period and may last another 10 years. During the draw period you will pay only interest each month on the amount you borrow, but during the repayment period you also pay off the principal. This means much higher payments and an inability to make new charges against the line of credit.
Some HELOCs don't have an extended repayment period. Instead, they consist of a draw period and, when it closes, a brief amount of time (such as one month) during which you must pay off the line of credit in full. These HELOCs are ideal for borrowers who want to make occasional purchases over the life of the loan but pay them off as they borrow. Other HELOCs include a brief draw period (perhaps five years) and a lengthy repayment period. If you plan to make a series of large purchases over a short period but will need more time to pay them off, this type of HELOC might be best.
Not every HELOC has a fixed term. While draw periods are often fixed to begin with, in some cases you may be able to apply for an extension. This means that your draw period, and your interest-only payment period, will continue if the lender approves your request. Your repayment period will remain the same but won't begin until your extension ends. Extending a HELOC increases the interest you'll pay but may give you more time to pay off the loan, especially if you choose to make larger payments during the draw period that cover your interest and also reduce your principal.
Many HELOCs include variable interest rates, just like adjustable-rate mortgages. This means the lender can increase the interest you pay based on an index, which is a measure of economic factors such as bank interest rates. Each variable-interest HELOC includes legal terms that control how soon, and how often, the lender can increase your interest during the draw period or the repayment period. The initial interest rate will last for an initial term, after which the lender can change your interest rate on a regular basis, known as the adjustment period. For example, a HELOC with a one-year adjustment period will allow the lender to increase your interest rate once a year.