Home equity line of credit rates to rise; here's what to do.
With one increase聽in each of the past two Decembers, and with a Fed plan to raise rates three more times this year, it鈥檚 pretty clear: Your home equity line of credit rate is likely heading higher.聽
With one increase聽in each of the past two Decembers, and with a Fed plan to raise rates three more times this year, it鈥檚 pretty clear: Your home equity line of credit rate is likely heading higher.聽
Mortgage rates may be a mystery; they move up one day and down the next, often befuddling the experts. However, the prime rate, which is the foundation for the interest you鈥檙e charged on聽home equity lines of credit, is a bit more transparent.
The Federal Reserve establishes short-term rates 鈥� and indirectly the prime rate 鈥� in an effort to reach economic targets. When the Fed raises rates,聽mortgage rates聽may or may not respond immediately, but the prime rate reacts right away. With one increase聽in each of the past two Decembers, and with a Fed plan to raise rates three more times this year, it鈥檚 pretty clear: Your HELOC rate is likely heading higher.
Primed for higher rates
鈥淗ELOC loans are generally a function of prime plus something,鈥� says Brian Sacks, branch manager of HomeBridge Financial Services in Pikesville, Maryland. That 鈥渟omething鈥� is a margin, a set markup that varies by lender. For example, if the prime rate is 3.75% and a lender adds a margin of 2 percentage points, your HELOC interest rate would be 5.75%.
鈥淧rime will likely go up several times in the coming year,鈥� Sacks says. 鈥淎nd certainly, long term, prime is likely to continue to rise.鈥�
He says聽we鈥檝e likely hit the 鈥渓ow end of the interest rate cycle for quite some time.鈥�
If you鈥檙e going to be staying in the same home for more than the next two to three聽years, Sacks says you should seriously consider refinancing your home equity line of credit into a fixed-rate loan.
Big聽balance? Beware but don鈥檛 panic
鈥淚t鈥檚 still relatively inexpensive to borrow,鈥� says Sean Andrews, senior manager for consumer credit products with KeyBank in Cleveland. He says traditional second-mortgage HELOC borrowers, who have tapped their home equity in a line of credit for home improvements and the like, still have quite a bit of headroom before higher rates start encouraging a change in plan.
However, for those homeowners who have a substantial balance, it might soon be time to seek a fixed-rate option, he adds. In that case, keep an eye on the prime rate.
For those with first-lien HELOCs
Over the past few years, as the prime rate remained in the cellar, Andrews says some borrowers began using HELOCs to refinance their primary, or first-lien, mortgage. First lien means the loan is first in line from a collection standpoint 鈥� the highest priority debt placed on a property.
One reason borrowers used a HELOC instead of a typical purchase mortgage: HELOCs often don鈥檛 have closing costs, he says, though some lenders will require you to pay an聽annual fee or origination charge.
Refinancing into a HELOC with no closings costs has been very attractive to homeowners, particularly those who didn鈥檛 plan on being in their home long term. Now, as rates start moving higher, Andrews says some customers have already begun moving those first-lien HELOCs to fixed-rate loans.
The case for a HELOC conversion
Dodging聽higher interest rates doesn鈥檛 mean you have to give up your home equity line of credit. Many banks let customers聽take a portion of their variable-rate line and convert it to a fixed-rate loan.
鈥淚t鈥檚 taking a chunk of your line and fixing [the rate] so that you can protect yourself from future rate movements,鈥� Andrews says. You still have the remaining available line of credit to draw on as you desire, with variable-rate interest charged only when the proceeds are drawn.
The cost of waiting
While it may be human nature to put such decisions on hold for a while, waiting to consider your options for too long can get you stuck on a ramp of rising interest rates.
Rates could have a 鈥渟ignificant and consistent pattern of going up,鈥� thus rendering a HELOC unaffordable, Sacks says. Even if your HELOC has a lifetime rate cap that limits how high your interest can rise, it may be a good time to shop options, he says.
鈥淚f nothing else, it鈥檚 worth exploring the opportunity of refinancing,鈥� by perhaps combining your first and your second mortgage in a refinance.
鈥淒uring these moments in time, when rates actually thaw and start moving, customers should unpack their agreements,鈥� Andrews says. By dusting off and reviewing those loan docs now, you might prevent the potential impact of procrastination.
If you wait to fix your rate until after interest rates have made a significant move higher 鈥� 鈥淚 want to be honest with you, at that moment, it鈥檚 too late.鈥�
Hal Bundrick is a staff writer at NerdWallet, a personal finance website. Email:聽hal@nerdwallet.com. Twitter:聽@halmbundrick.
This story originally appeared on NerdWallet.