3 Big Mistakes You Might Make When Signing Up for a HELOC

A personal loan could be a good way to borrow money when you need cash for something important. But if you own a home, you may be able to tap the equity you have in it by signing up for a home equity line of credit, or HELOC.

The upside of HELOCs is that they can be very flexible. Often, you'll have many years to tap your HELOC. And if you don't end up borrowing the entire sum you're approved for, you won't have to pay interest on all of it. 

But there are certain pitfalls you might encounter when you sign up for a HELOC. Here are a few big mistakes to avoid at all costs.

1. Applying with a low credit score

Because a HELOC is secured by the equity you have in your home, you might assume that your credit score doesn't matter much. After all, if you fall behind on your payments, your lender has recourse. So it may be willing to overlook a poor credit score, right? 

Not necessarily. Although your home equity will play a role in your ability to qualify for a HELOC, so will your credit. Lenders will want to see a reasonable payment history, and a low score sends the message that you don't have the strongest history of making loan or bill payments on time. 

Take a look at your credit score, and if it needs work, try to put off your HELOC application while you work to improve it. You can do so by being timely with bill and loan payments and paying down credit card debt if you have a lot of it. It's also worth reviewing your credit report for errors -- and of course working to correct any you come across.

2. Not shopping around

It's important to shop around any time you take out a loan. And a HELOC is no exception. 

It can take a while for a HELOC to close, so you may be eager to get the ball rolling. But if you don't shop around for rates, you might get stuck paying more for your HELOC than necessary. And if you end up with a higher interest rate to begin with, it might increase your risk of falling behind on your payments.

3. Not paying attention to closing costs

Just as closing costs tend to come into play when you sign a mortgage, so too should you expect to pay closing costs when you put a HELOC in place. Discover says that on average, closing costs on a HELOC can amount to 2% to 5% of your total loan amount. That's comparable to what borrowers pay on a mortgage. 

Just as it's important to shop around for rates on a HELOC, also compare closing costs and other fees. And speaking of fees, see if your lender will charge any for terminating your HELOC early. You may be surprised at what the fine print contains, and you definitely don't want any surprises.

A HELOC could be a good way to get access to money when you need it. But aim to avoid these mistakes when signing one.