The Federal Reserve has hiked interest rates to the point that the fixed rate on a 30-year mortgage is hovering around 5%. Though a 5% interest rate on a home mortgage is not egregiously high (especially when compared to interest rates throughout history), rising rates have the potential to be a major problem for homeowners and homebuyers. In particular, rising interest rates are problematic for homeowners with a variable-rate home equity line of credit (HELOC).
Secure a HELOC and you will have the funds necessary to improve your home or your life however you see fit. A traditional HELOC is a line of credit typically characterized by an adjustable interest rate that will move along with the Fed’s funds rate.
The emergence of fixed-rate HELOC options are especially appealing since their interest rates can be capped, meaning the rate will not climb higher — even if the Federal Reserve continues to bump up interest rates in the financial quarters throughout 2022 and years to come.
As an example, plenty of homeowners secure a variable-rate HELOC to borrow funds to perform home renovations, build an addition onto their house or pay off debt that carries a higher interest rate. Then, lenders can convert all or a portion of the HELOC borrowing to a fixed-rate during the repayment period to ensure stable monthly payments that won’t fluctuate along with the economy.
Each HELOC type has unique terms ranging from term length to interest rate and minimum monthly payment. In general, the longer the term, the lower the monthly payment will be. For the most part, HELOCs max out at a 20-year repayment term, but can include repayment terms as short as 5 years.
There is also the option of a fully amortizing term in which the full balance of the fixed-rate HELOC is paid off within the designated term. Alternatively, the HELOC can be set up so that part of the balance remains, creating the potential to convert it into a loan with a variable interest rate.
Added to this rate flexibility is the innate flexible borrowing a HELOC offers: you’ll only repay what you withdraw, allowing you to control the final borrowing amount.
We would be remiss not to mention adjustable-rate HELOCs also have their fair share of advantages. Though the Federal Reserve has publicly stated it is likely to continue increasing interest rates through the remainder of the year and possibly into 2023, there is no guarantee they will actually do so.
If the economy cools and inflation slows or halts, the Federal Reserve might decide to keep interest rates at their current level or even lower them. If such a development occurs, adjustable-rate HELOCs will be that much more attractive.
Another added bonus of adjustable-rate HELOCs is the beginning interest rate is usually lower than that of fixed-rate home equity loans. Those who take out an adjustable-rate HELOC save money in their initial payments when compared with those who take out a fixed-rate home equity loan. The comparably low monthly payments make it that much easier to qualify for an adjustable-rate HELOC.
Whether Federal rates continue to rise or stagnate, HELOCs remain an attractive option for home equity borrowers. With the flexible line of credit, HELOC borrowing can match the needs of budgeting – whether that’s for an unknown education expense, a fluctuating contractor bill during a remodel, or a line of credit simply for emergencies.
As more lenders offer the option to convert HELOC borrowing into fixed rates, borrowers can benefit from an additional flexibility that signals the promising return from a HELOC.