Everything you need to know about HELOC early repayment
A HELOC, or home equity line of credit, is a popular financial tool for many homeowners to make large purchases, consolidate debt, or cover emergency expenses. As with other forms of borrowing, a HELOC balance must be repaid with accrued interest. Some lenders allow you to pay off your HELOC early, but others charge a fee, known as a prepayment penalty if you chose to close out the loan early or carry a zero balance.
Can I pay off my HELOC early?
Yes, you can typically pay off your HELOC early. Some borrowers like to keep the credit line active so they can withdraw funds if needed, while others prefer to close out the account. Similarly, some lenders will require you to close the account, and others charge an early repayment or prepayment penalty. It's important to understand exactly what your lender's policies are and to compare HELOC loan options if you plan to pay off your loan quickly or will want to close it out early.
How HELOC repayment works
A Home Equity Line of Credit, or HELOC, is a type of home equity loan that is secured by the equity you have in your home. A HELOC provides you with a line of credit, similar to a credit line on a credit card, which you can draw funds from and repay. However, unlike a credit card, a HELOC is a secured loan, so it typically has substantially lower interest rates. And unlike a traditional home equity loan, where you receive a one-time, lump sum payment at the start of the loan, with a HELOC you only pay interest on the balance you have drawn from the credit line, which can mean significant savings on interest over time.
Home equity lines of credit are divided into two periods: the initial draw period followed by the repayment period.
The Draw Period
The HELOC draw period is the timeframe during which you can withdraw money from your HELOC up to an established credit limit set by your lender. This timeframe typically lasts for five to 10 years and during this time, your minimum monthly payments will go toward paying just the interest on the amount borrowed. This means that monthly payments will stay relatively low throughout the duration of the draw period.
To maximize the benefit of a HELOC, one should take advantage of the ability to make larger payments toward the principal balance while still in this draw period. Doing so will lower the amount owed when entering into the repayment phase and minimize the total cost incurred by reducing the overall interest paid.
The Repayment Period
The repayment period for a HELOC typically begins after the draw period ends. At this point, your credit line closes and you are no longer able to borrow from the HELOC account. Repayment periods are usually set for 10 to 20 years, during which time you will be required to make payments on both the principal balance and accumulating interest charges. Depending on the terms of your HELOC, you may have a balloon payment at the end in order to pay off all money borrowed plus interest.
Repayment is usually more costly than during the draw period because now monthly payments must cover both interest charges as well as the principal balance. The best way to avoid a jump in monthly payments when entering repayment is to pay down at least some of your principal balance during the draw period.
How HELOC early repayment works
HELOC funds are repaid with interest applied to the principal balance. However, during the draw period (often lasting for the first 5 to 10 years the account is open), borrowers are typically only required to pay interest on the borrowed amount. At the end of this period, the HELOC enters a repayment period and borrowers can no longer withdraw funds and must begin making principal and interest payments.
Some lenders permit borrowers to repay more than just the interest during the draw period. This is beneficial for borrowers since they can start paying off their loan sooner than originally expected, and reduce overall interest payment on the loan. Some lenders charge prepayment penalties, have special requirements to repay, or simply don't allow it. Therefore, if you are considering pre-paying your HELOC during its draw period, it is important to check with your lender beforehand in order to understand any conditions that you may need to meet in order for pre-payment approval before making such decisions.
HELOC Prepayment Penalties
When it comes to paying off your HELOC during the draw period, many lenders will charge a fee for repaying the loan early. This is usually an early repayment penalty that applies within the first few years of opening the account. Each lender offers different fee structures and payment penalties, but they typically apply for three to five years.
The fee may be a flat rate or a percentage of your total line of credit balance and varies significantly between lenders. Additionally, some lenders may also reduce their early repayment fees over time as you progress through the draw period. It is best to contact your lender about specifics before making any payment decisions so you are aware of all associated costs. (Check out Figure's fast and easy, no penalty HELOC.)
Reasons to pay off your HELOC early
One of the most important benefits of paying off a HELOC early is that you can save money on interest payments. Since home equity lines of credit accrue interest at a variable rate, the total amount of interest paid over the life of the loan can be greatly reduced by paying it off quickly. Doing so will also free up funds each month as monthly payments are lowered.
Paying off a HELOC early also has the potential to improve your credit score. Paying off debt can help reduce your utilization ratio, or the amount of available credit you are using, which can increase your credit score. Additionally, eliminating a line of credit may make you eligible for other forms of financing at lower interest rates or with more favorable terms.
Finally, paying off a HELOC early gives borrowers greater financial freedom. Having an extra line of credit can be convenient and helpful, but it also adds a layer of complexity to budgeting. Paying off the balance relieves this burden and allows borrowers to focus on their larger financial goals.
Frequently asked questions
Can my lender close my HELOC during the draw period?
The Truth in Lending Act gives your HELOC lender the right to close out the line of credit at any time. However, even if you make payment in full during the draw period, your lender won't necessarily close it without consent. Lenders are unlikely to close an account without direct approval from the borrower, or specific requests for closure.
A HELOC is designed as an open-ended line of credit that allows borrowers to pull from it whenever necessary during the draw period. This means you can make small payments over time, or withdraw the entire balance all at once. It's up to you how much or how often you use it. However, lenders may opt to freeze or even close certain lines of credit if they feel it represents a potential risk to them. This typically only applies when the account balance has reached zero.
Will I be charged a fee if I repay my HELOC early?
Some HELOC lenders charge early repayment penalties, so it is important to shop around if you haven't yet chosen a lender. The amount of this prepayment penalty will vary based on the lender but, generally, it should be no more than a few hundred dollars.
Lenders like banks make money by charging interest and fees for the products they offer. Home Equity Lines of Credit (HELOCs) are contractual products in which the lender calculates their profits based on the lifespan of the product. If you close your HELOC prematurely, it cuts off their income stream early. As a result, lenders will sometimes charge a HELOC prepayment penalty to deal with this potential financial downside.
Can I repay my HELOC during the draw period?
It’s possible to pay off a HELOC during its draw period regardless of whether or not it’s required by the lender. Doing this can save borrowers money in the form of interest payments over the life of the loan. Borrowers should check with their lenders to determine if extra payments are allowed before making them. Keep in mind that any extra payments made during this time will be applied directly to the principal balance, effectively reducing your total debt load and decreasing your total cost of borrowing from the HELOC.
Can I renegotiate HELOC repayment terms with my lender?
Negotiating pre-payment penalty fees with your lender can be a viable option if you want to save money on your home equity line of credit (HELOC). It may be possible to lower the fee or even have it waived altogether, depending on your lender's policy. Regardless, even if your lender charges a fee or penalty, it still may be beneficial to pay off the loan early. Accounting for the penalty, you will still save significantly on interest payments over time on the account.
The bottom line
It is possible to pay off a home equity line of credit (HELOC) early. Doing so can eliminate the burden of managing a complex line of credit and provide financial freedom. Current borrowers should research their lender’s policies and consider negotiating to reduce or waive any potential penalties before making an early repayment. Those shopping around should look for a loan that does not charge a penalty for early repayments, such as the Figure HELOC.
