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If you have built up equity in your home but still have a mortgage balance to pay off, you may consider using a home equity line of credit (HELOC) to reduce your monthly payments and the overall interest you pay on your loan. Since HELOCs sometimes have lower interest rates than mortgages, you could save money and potentially pay off your mortgage sooner. Even if the rates are similar, refinancing your first mortgage with a HELOC might still be the best choice for you.
Here are some pros and cons of using a HELOC to pay off your mortgage as opposed to a traditional refinance.
Like a mortgage, a HELOC is secured by the equity in your home. Unlike a mortgage, a HELOC offers flexibility because you can access your line of credit and pay back what you use just like a credit card.
You can use a HELOC for just about anything, including paying off all or part of your remaining mortgage balance. Once you get approved for a HELOC, you could pay off your mortgage and then make payments to your HELOC rather than your mortgage. Note that HELOC rates are variable, which means the rate can fluctuate up or down and is tied to a known index, usually the prime rate.
Using a HELOC to pay off your mortgage is essentially a form of refinancing. It allows you to reduce your interest rate without the closing costs associated with a home refinance.
Before you decide on a HELOC, there are several things to consider:
The interest-only repayment option is an attractive feature of a HELOC. However, at the end of the draw period, the interest and principal will be rolled into one amortized monthly payment for a loan term of 15 years. You have to be prepared for this or the increase in your monthly payment (which will now include principal as well as interest) could catch you by surprise and hurt your finances.
You could choose to make payments toward the principal each month to space these out rather than have the large payment at the end. Since these are not automatically included in your monthly bills, you will need to let your lender know how much you want to apply to the principal. Look into your loan agreement to find out if there are any prepayment penalties. These usually apply only if you actively pay off and close your account. Generally, small monthly payments will not affect these penalties, but you'll want to be sure.
Another factor to consider is the variable rate associated with the loan. If you still have a substantial balance left on your mortgage and it will take you several years to pay back the HELOC, be aware that interest rates could go up in that time. One way to reduce this risk is to request a rate lock, which means you can fix a portion of your HELOC and convert it to a fixed-rate loan, with a set monthly payment for a specific term. Alternatively, if you have a smaller mortgage balance and could pay off the loan in just a few years, the HELOC could offer better rates and the variable interest would be less of an issue.
We are committed to helping you reach your potential by providing personalized solutions. Our dedicated colleagues can help you find the right product to help you reach your goals. To learn more about a HELOC, please call 1-888-333-1206, visit us online, or Ask a Citizen at your nearest Citizens Bank branch.
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