A home equity line of credit, often referred to as a "HELOC" in the banking industry, provides you with the ability to purchase items on credit and pay for those purchases over time. Unlike traditional lines of credit, however, your home serves as collateral on a HELOC. If you do not pay off your purchases, the lender can foreclose on your property. A HELOC provides you with greater purchasing freedom than you previously enjoyed, but under certain circumstances it can negatively impact your credit rating.
Credit Inquiry
When you apply for a HELOC, your lender evaluates your credit history. HELOC lenders conduct a "hard pull" when requesting a copy of your credit report. A hard pull lowers your credit score by approximately five points -- not enough to significantly damage your credit score.
Some consumers do not shop around for the best rates on a HELOC due to their fear of credit damage from repeated hard pulls. The credit scoring system, however, makes provisions for borrowers shopping for the best rates. As of May 2011, the most current credit scoring formula, FICO '08, allows consumers unlimited hard pulls within a 45-day period -- preventing you from doing serious damage to your credit score when searching for the best rates on a HELOC.
Credit Utilization Ratio
The amount of debt you carry on your HELOC could lower your credit rating by negatively affecting your credit utilization ratio -- the difference between your current balance and your credit limit. The less available credit you have on your HELOC, the more your credit score will suffer since maxing out any line of credit indicates poor debt management skills and greater financial risk.
Nonpayment
Leaving your HELOC unpaid can wreak havoc on your credit score. Not only does your payment history carry more weight in determining your credit rating than any other factor, but your HELOC lender has the right to foreclose on your home when you leave your line of credit unpaid. A home foreclosure can cost you up to 300 points -- ruining your credit rating. The damage from both missed payments and a foreclosure remain on your credit file for up to seven years.
Considerations
A HELOC isn't an inherently negative item on your credit report like a collection account or a charge-off. If you manage your HELOC wisely by maintaining a low balance and making timely payments, it will boost your credit score rather than damaging it. The way a HELOC -- or any line of credit -- affects your credit scores depends solely upon how you use it.
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