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By Jeff Brown
Everyone has a rough patch from time to time, when more money goes out than is coming in. So, it’s nice to have a back-up fund, like a home equity line of credit that’s cheaper than a credit card.

But be sure to do some careful research, because interest rates on these loans are “variable,” meaning they can jump unexpectedly, causing a nasty increase in monthly payments.

Like a home equity installment loan, a home equity line of credit (HELOC), is a loan secured by the equity in your home, or the difference between the home’s value and what you still owe on the mortgage. Because the lender can foreclose if the borrower fails to make loan payments, a HELOC is less risky for lenders than unsecured loans such as credit cards, so interest rates are lower.

The installment loan comes in a lump sum and you start paying interest on the full amount immediately, making it good for big expenses. A HELOC provides a credit limit, much like a credit card, and you borrow only what you need when you need it.

While most installment loans have fixed interest rates, HELOCs typically have variable rates that can change month to month. Many figure the month’s rate by adding a “margin,” or a given number of percentage points, to the prime rate, a rate banks charge favored customers.

Lenders often lure investors with low “teaser” rates – some as low as 3.25 percent these days. But after a short introductory period, usually three months, the rate starts adjusting monthly.

Other lenders simply start with the basic prime-plus formula.  For instance, Bank of America (Stock Quote: BAC) has a HELOC that starts at 6.74 percent, the same rate it would adjust to under today’s formula of prime + 3.49.
Often, you are only required to pay interest, and it’s up to you to decide when to pay back the principal. Obviously, the longer you postpone principal payments the more you pay in interest.

Use the BankingMyWay.com shopping tool to start your search. Once you’ve found a few good candidates, you will have to contact the lenders for details.  Find out how often the rate adjusts, how the payments are calculated, and what fees are charged on top of the rate, including late-payment penalties.

There may be other conditions, such as a minimum amount that can be borrowed. And to get the best deal you might have to open a savings or checking account and have your HELOC payments made automatically.

Today’s prime rate of 3.25 percent is unusually low. A year ago it was 5 percent, and three years ago around 8 percent. If it were to jump that high, your monthly payment on a debt incurred today could easily double.
So it’s best to use HELOCs for short-term needs, and to be sure you’ll be able to handle the payments.  If the rate jumps, just pay off the loan.

Loans are offered by well-known firms such as LendingTree (Stock Quote: TREE) and PNC (Stock Quote: PNC), but there are often very good deals from local banks and credit unions as well.

— For more ways to save, spend, invest and borrow, visit MainStreet.com.