Know your draw period for a HELOC

Certain uses could be good for this type of borrowing. “This type of loan makes sense for projects you need to pull money for when needed—extensive home repairs and maintenance—or college tuition payments each term,” says Rob Cook, Head of Marketing and Customer Experience for Discover Home Loans. Since a HELOC is secured by your home equity (vs. a credit card, which is an unsecured loan), rates are typically lower. This makes HELOCs a possible solution for debt consolidation.

Before you fill out your application, make sure you know the terms of a HELOC and understand it’s fundamental aspect—the draw period—to know if it’s right for you.

The beginning of your HELOC draw period

When you’re approved for a HELOC, you will also be approved for a credit limit based, in part, on how much equity you have in your home. You can use this line of credit during what is called the draw period.

This is the amount of time you have to draw funds from the HELOC. The draw period typically lasts for a fixed amount of time. It can vary between lenders, but the period usually can last up to ten years. Each lender could also have different requirements, like minimum draw amounts or when you need to start making repayments. Be sure to check the specific details of each lender you consider.

During the HELOC draw period you typically can make interest-only payments on what you’ve borrowed. But, you can also pay back the principal amount if you choose. You don’t have to withdraw the entire amount — but it’s available if you need it.

Here’s an example: If you have a $90,000 HELOC, you can borrow up to that amount. If you only use $25,000 of the line of credit, you may only need to pay interest on that $25,000 during the draw period, not the $90,000 maximum value of the line. Once the draw period is over, you will make monthly payments on interest and principal of the amount you withdrew.

“HELOCs are a good option for those looking for a source of revolving credit that can be managed in the same way as a credit card,” Cook says.

Accessing your HELOC funds once you have them

Your lender will provide you with options for accessing your funds. Most allow you to withdraw cash by online bank transfer or a HELOC account card (like an ATM card).

If you get an account card, you can use it just like you would use a debit card to make purchases or withdraw cash at an ATM. Usually you'll have a checkbook that goes along with the account.

Something to keep in mind is that there may be minimum draw requirements and fees. Your lender may also require an initial draw amount — and according to Cook: “Many HELOCs charge a maintenance or annual fee regardless of whether you’re actively using a line of credit.”

So go ahead and start paying for college, planning your new kitchen, paying off high-interest credit cards or designing your new pool. Lender terms may vary widely, so doing your homework is important. Fully understanding all the ins and outs of your HELOC before entering into an agreement may be critical to your financial situation.

Preparing for the end of the HELOC draw period

When the draw period ends, the agreement continues in another form, called a repayment period. In this next phase you’ll need to pay back both the principal and interest. This can increase your monthly payments significantly and catch you off guard if you’re not prepared for it.

The repayment scenario can play out in a few different ways: Some lenders may want you to pay back all the money at the end of the draw period. Others might extend the repayment phase over decades. There’s also the possibility of keeping a credit line open and stalling repayment by looking for a new HELOC at the end of the draw period. In essence, by doing this you are refinancing your first HELOC so you can continue borrowing and avoid a big increase in the minimum monthly payment. You can draw on that amount again when you repay what you initially borrowed.

Another thing to keep in mind is that HELOCs typically have variable interest rates, meaning that your monthly payments can vary month to month. The prime rate is one benchmark used to set HELOC and credit card rates.

When rates are expected to lower, the variable rate on HELOCs will cause your payment obligations to lower, but they will also increase if the prime rate goes up.

Here’s an example: If your lender offers you a 30-year HELOC with a 10-year draw period, you may pay interest only on the balance owed during the first 10 years of the draw period, then you’ll owe interest and principal for the remaining 20 years of the 30-year term.

Since your HELOC rate depends on the prime rate — the lender may tack on a percentage point or two on top of this amount. So, it’s best to be conservative in your estimates of how much you can borrow so that you’re not in a situation where you can’t make your payments or repay your loan at the end of the draw period.