Home Equity Loan Guide

If you’re like many homeowners, the value of your home rose significantly in recent years. With prices of existing homes often topping $400,000 or more in even low-cost parts of the country, millions of homeowners have equity in their homes they didn’t a short time ago. That’s why more consumers are tapping their available equity with a home equity loan or home equity line of credit (HELOC). Below is more information about pulling equity out of your home. Have questions about home equity? Your loan adviser can help today.

What Is Home Equity?

Home equity is the amount of the home that you really own. For example, if you have a home value of $300,000 and a current mortgage of $200,000, you have $100,000 in equity. If the house is paid off, you have $300,000 of equity. In normal situations, you can only access your cash when you sell the property, but why wait?

With a home equity loan or HELOC, you can pull out some of that cash with a second mortgage. If you do this, the home is collateral for the money you take out, so you can lose the home if you don’t pay. The advantage is that because the home is collateral, you can get a home equity loan or HELOC at a relatively low rate.

What Is a Home Equity Loan?

A home equity loan is a type of second mortgage that is secured by your home as collateral. You get part of your equity at a fixed interest rate and pay it back over a fixed period. If you do not pay the home equity loan on time, the lender can foreclose.

How much you can borrow from your equity depends on many things, including your credit score, equity in the home, income, and the home’s market value. Many lenders will only let you borrow up to 80% of the home’s value.

A home equity loan gives you a lump sum of cash and you pay interest on the full amount. If you need the money for one, large expense, a home equity loan is a good option. This loan also makes sense for those who want a fixed-rate loan and a definitive end date on making payments.

Advantages of a Home Equity Loans 

In addition to the versatility in how you can utilize your loan and the potential tax benefits from the interest paid, a home equity loan offers numerous other advantages.

Fixed Home Equity Rates: Unlike fluctuating HELOC interest rates, fixed home equity loan rates remain constant throughout the loan term. Consistent interest rates can reduce the long-term cost of the loan, as interest rate fluctuations are mitigated. However, fixed rates can also pose drawbacks, as elaborated below.

Stable Fixed Monthly Payments: Having predictable payment amounts is a significant benefit. With a home equity loan, your payment remains fixed for the entire loan duration, regardless of interest rate changes. This stability makes budgeting easier and allows for long-term cost prediction.

Lower Home Equity Interest Rates: Compared to other loan types, the risk to lenders is lower with home equity loans since they are secured by your property. Consequently, you may qualify for a lower interest rate compared to unsecured financial products such as personal loans and credit cards. However, the interest rate offered typically depends on your creditworthiness.

Potential Tax Deduction: If you use the funds from your home equity loan to construct, purchase, or make substantial improvements to your primary residence, you might be eligible to deduct the home equity loan interest paid on the loan from your annual tax return. This can be a significant advantage, particularly if you reinvest the savings into your home.

What Is a Home Equity Line of Credit (HELOC)?

A HELOC is a second mortgage that is similar to a credit card, but your credit line is your home’s equity. You are given a credit limit and can use the equity up to that amount. HELOCs have a variable interest rate and you can reuse the credit line after you pay it off.

Many HELOCs use the US Prime Rate as their index, and you can expect the interest rate to generally rise in 2024, but it can also go down, depending on market conditions. Many HELOCs start with a low rate but it goes up over time. Whether you want a HELOC or home equity loan largely depends on your risk tolerance and ability to pay. If you like to be certain of what you will pay and for how long, a home equity loan could be the best move. But if you are comfortable with more risk and possibly getting a lower rate, a HELOC could be the way to go. The HELOC interest calculations are done differently than traditional equity loans and they offer interest only payments for the draw period. 

How You Can Use Home Equity

Whether you get a home equity loan or HELOC, you can use your equity in any way you wish. Some of the popular ways to use home equity are:

• Renovate the home, which can increase its value and make it sell faster.
• Pay for college tuition
• Buy a business.
• Buy a second home.
• Buy an investment property.
• Pay off high-interest debt, such as credit cards.

Most experts recommend using home equity to improve your finances, which could be by buying real estate, paying down debt, or buying a business.

What credit score and income requirements do you need for a home equity loan?

One of the major pluses of owning your home is the chance to build equity and borrow it. When you build up enough equity through appreciation and making payments, you can access some of your home equity with a home equity loan or home equity line of credit (HELOC). Requirements for credit score and income vary by lender, but this article will give you the basics. If you have additional questions, speak to your lender today.

Credit Score Requirements for Home Equity Loans

Different lenders have various standards for credit scores, but you will usually need at least a 640 or 650 credit score to qualify. For the best loan terms and rates, over 700 is best. Occasionally lenders will give a home equity loan to someone with a 620 credit score, but you will need more equity and a lower debt-to-income (DTI) ratio. You also may expect a higher rate and lower loan amount. There are still a few non-prime home equity lenders and private money sources that will offer home equity loans and HELOCs to borrowers with credit scores as low as 580 if they have enough equity.

For the best home equity rates, take time to find out your credit score before applying and improve it if you can by making on-time payments and paying down debt.

What About Home Equity Loan Rates?

While there may be home equity loan closing costs and additional HELOC fees to consider, interest charges make up the primary component of the expenses incurred when borrowing against your home equity. Consequently, most borrowers strive to secure the most competitive home equity loan rate available.

Presently, the average home equity loan rate stands at approximately 8.70% which is very attractive compared to the rising credit card interest rates. However, it represents a decline from recent months, and the trajectory of future rate fluctuations remains uncertain. Thus, if you’ve been anticipating a decline in home equity loan rates before leveraging your home equity, now might be the opportune moment to take action.

Summary on Home Equity Loans

A home equity loan enables you to access the equity accumulated in your home and convert it into cash. There are primarily two categories of home equity loans: fixed-rate loans and variable rate home equity lines of credit (HELOCs). Interest paid on home equity loans may be tax-deductible, provided the equity loan is utilized to significantly enhance the home that serves as collateral. Both home equity and HELOC loan variants necessitate full repayment if the property used as collateral is sold.

Many homeowners have equity in their homes and home values continue to climb in the early 2020s. If you want to access some of your equity before you sell, it may make sense to get a home equity loan. You also can consider the benefits of a HELOC or mortgage-refinance loan. Talk to your lender today about your plans and finances, and they can tell you which loan will help you most.