A traditional mortgage loan is when you borrow money to purchase or refinance your home. Typically, this is a fixed interest rate though adjustable rate mortgages are out there as well. The term of the loan can be anywhere from 10 to 40 years.
Mortgages have been an established option for most consumers when it comes to buying a home, and for good reason. But there are several key differences between a Mortgage and a 1st lien HELOC that can show just how lack luster a traditional mortgage can be.
With a traditional mortgage, a small fraction you every payment you make reduces the amount that you owe on the loan. The only way that the loan amount would increase is if you refinance and take out your equity in cash or a “cash-out refi” as it is commonly called.
Another type of home loan is a home equity line of credit or a First Lien HELOC. This type of loan is known as an “open ended loan”. While this loan has a maximum amount you can use at one time, the amount you owe can fluctuate over time. You can make payments to reduce the line and also borrow more money at any time.
The payments on a First Lien HELOC are not fixed because they fluctuate depending on the current balance. The payment in this type of loan is “interest only”, which allows you to maximize any principal reduction by any extra above the interest owed you may apply throughout the month. In this sense, a First Lien HELOC is more like a credit card where you make interest payments based on the balance.
In addition to the fixed payment versus the varying balance and interest only payment, another HUGE difference is in the interest charged and the way it is calculated. Let’s take an in-depth look at the interest calculations between the two.
By design, a traditional mortgage loan always earns interest first. This type of loan is called an amortized loan. By definition, an amortized loan payment first pays any and all interest expense that has accrued for that payment period. Any remaining amount of the payment is then put towards reducing the principal balance. If you pay your property taxes and home owner’s insurance “in escrow”, these amounts are in addition to any principal and interest payment. When you sign your loan papers, the entire amount owed is calculated in advance and then divided into fixed monthly payments. However the amount of the payment itself is then divided between principal and interest.
Depending on your situation, First Lien HELOCs could also be a better alternative to a second mortgage. Second Mortgage interest rates tend to run higher than HELOCs. Getting a second mortgage compounds these interest rates so they can run even higher than your first mortgage.
HELOCs and mortgages are largely different home loan options because they don’t offer similar spending flexibility or availability of funds.
Sign up on FirstLienHeloc.com to get connected with a licensed lender who can deliver an all-in-one 1st Lien HELOC. They’ll walk you through the application process and help outline your budget, your numbers, and exactly how much you can save by replacing your mortgage.