- An interest-only payment reduces the balance by nothing — after the draw period you owe exactly what you drew.
- The payment always rises when repayment starts, because the full balance has to clear over fewer remaining years.
- A line of credit is secured against your home, so the consequences of falling behind are the ones that attach to a mortgage.
- Most lines are variable-rate: a payment that is comfortable at today’s rate is not automatically comfortable at a higher one.
How a home equity line of credit works
A home equity line of credit is revolving credit secured against your home. You are approved for a limit, you draw what you want when you want it, and — this is the part that matters — the minimum payment is normally the interest alone.
That is a genuinely useful feature and a genuinely dangerous default. Useful, because the payment on an undrawn or partly drawn line is small or nothing. Dangerous, because an interest-only payment does not reduce the balance by a cent: pay it faithfully for five years and you owe exactly what you owed at the start, having paid five years of interest for the privilege.
So the real question is not what the payment is. It is what happens when the interest-only phase ends and the same balance has to be repaid over fewer remaining years, at a payment that is necessarily higher than if you had been amortizing all along.
The math
The interest-only payment is the simplest figure on the page: balance × annual rate ÷ 12. It does not amortize, so it never changes while the balance does not.
The repayment phase amortizes the full draw over the repayment years using the level-payment formula, since nothing was repaid during the draw period. Total interest on that route is the interest-only payments plus the interest inside the repayment phase.
The comparison arm amortizes the same draw over the same total number of months — draw period plus repayment period — so the two routes finish on the same date and differ only in when principal starts moving. That is what makes the difference attributable to the interest-only years alone rather than to a longer horizon. The rate is held constant in both arms; a real line of credit is variable, and modelling a rate path would mean asserting one.
Worked example
Draw $60,000 at 7.5% with a five-year interest-only period and fifteen years of repayment. The interest-only payment is $375 a month. Five years and $22,500 of payments later, you still owe $60,000 — the balance has not moved.
Repayment then has to clear the full $60,000 over fifteen years at $556 a month, and total interest across the twenty years is $62,617. Amortize the same $60,000 over the same twenty years from day one and the payment is $483 throughout, the balance is down to $52,141 by the end of year five, and total interest is $56,005. The interest-only years cost $6,612 and bought a $108-a-month discount for five years.
Key terms
- Draw period
- The phase during which you can borrow on the line and the required payment is normally interest only.
- Repayment period
- The phase after the draw period, when the balance has to be amortized. The payment jumps because the same balance now has a deadline.
- Revolving credit
- Credit you can repay and redraw. It is what makes a line flexible and what makes a balance easy to keep rather than clear.
- Secured against the home
- The line is registered against your property, which is why the rate is far below an unsecured one and why the risk of default is not comparable.