CMPS Home Equity and HELOC Strategies 1 — Questions and Answers
Question 1: What is the typical maximum combined loan-to-value (CLTV) ratio most lenders allow when approving a HELOC?
- 70%
- 80%
- 90% (Correct answer)
- 100%
Correct answer: 90%
Most lenders permit a CLTV of up to 85–90%, meaning the total of all mortgages cannot exceed that percentage of the home's appraised value.
Question 2: How does a HELOC differ from a home equity loan in terms of interest rate structure?
- HELOCs carry a fixed rate; home equity loans carry a variable rate
- HELOCs carry a variable rate; home equity loans typically carry a fixed rate (Correct answer)
- Both products always use fixed interest rates
- Both products always use variable interest rates
Correct answer: HELOCs carry a variable rate; home equity loans typically carry a fixed rate
HELOCs are almost always tied to a variable index (typically the Prime Rate), while home equity loans generally offer a fixed interest rate for the life of the loan.
Question 3: What is the 'draw period' in a HELOC?
- The time during which the lender evaluates the borrower's creditworthiness
- The window in which the borrower can access funds up to their credit limit (Correct answer)
- The period when the borrower must repay the entire outstanding balance
- The time after the loan closes when the rate is locked
Correct answer: The window in which the borrower can access funds up to their credit limit
The draw period (commonly 5–10 years) is when the borrower can withdraw funds up to the approved credit limit, usually making interest-only payments.
Question 4: During the repayment period of a HELOC, what typically happens to the borrower's monthly payments?
- Payments drop to interest-only
- Payments increase because principal repayment is now required (Correct answer)
- The credit line resets and the borrower may draw again
- The lender converts the balance to a fixed-rate home equity loan automatically
Correct answer: Payments increase because principal repayment is now required
Once the draw period ends, the repayment period begins and the borrower must repay both principal and interest, which causes monthly payments to rise significantly.
Question 5: Which scenario best illustrates a prudent use of a HELOC as a financial planning tool?
- Funding a vacation to avoid depleting savings
- Consolidating high-interest credit card debt at a lower interest rate (Correct answer)
- Purchasing speculative investments in a volatile market
- Covering recurring monthly living expenses long term
Correct answer: Consolidating high-interest credit card debt at a lower interest rate
Using a HELOC to consolidate high-interest debt can lower the overall interest rate paid, improve cash flow, and potentially provide a tax benefit on the interest.
Question 6: What happens to an outstanding HELOC balance when the homeowner sells the property?
- The HELOC balance is forgiven by the lender at closing
- The HELOC is assumed by the buyer without any approval process
- The outstanding balance must be paid off at closing from sale proceeds (Correct answer)
- The HELOC converts to an unsecured personal loan
Correct answer: The outstanding balance must be paid off at closing from sale proceeds
A HELOC is secured by the home, so the lien must be satisfied at closing; the outstanding balance is repaid from the net sale proceeds before the seller receives equity.
Question 7: Under the Tax Cuts and Jobs Act (TCJA), HELOC interest is deductible only if the funds are used for which purpose?
- Any personal expense including vacations and vehicles
- Buying, building, or substantially improving the home securing the loan (Correct answer)
- Investing in securities held in a taxable brokerage account
- Paying down student loans or medical bills
Correct answer: Buying, building, or substantially improving the home securing the loan
Post-TCJA, HELOC interest is deductible only when the loan proceeds are used to buy, build, or substantially improve the taxpayer's qualified residence that secures the loan.
CMPS Home Equity and HELOC Strategies 1
What is the typical maximum combined loan-to-value (CLTV) ratio most lenders allow when approving a HELOC?