If you’re in the market for credit, a home equity loan is one of several options you may want to explore. A home equity loan lets you use the equity you’ve built in your home as collateral to borrow money.
Equity is the value of property that you own, or the market value of the home minus any existing debt. It’s essentially the dollar amount you would have if you sold your home and paid the balance of your loans. With a home equity loan, your home acts as collateral to protect lenders from losses if you default, just as it does with your primary mortgage.
Learn more about home equity loans, including where to get them, how to compare rates, and how to apply for a home equity loan.
- A home equity loan lets you use the equity in your home as collateral to take out a second mortgage.
- Home equity is the value your home could sell for at current market prices minus what you already owe on your existing mortgage.
- You can get home equity loans through banks or credit unions.
- Mortgage brokers may help you find the best loan deal since they offer a wider selection of loan products and terms from several lenders.
Who Offers Home Equity Loans?
Lenders including banks and credit unions offer home equity loans that let you tap into the equity you’ve built in your home to obtain funds. You’ll typically make equal monthly payments on the loan over a fixed term. If you default on the payment agreement, a lender can foreclose on your home and sell it to try to recoup any losses.
The amount of money you can borrow and the interest you’ll pay depend on factors such as your credit history, income, and the value of your home. With many lenders, the amount you can borrow is limited to 80% or 85% of your home equity.
Most major banks offer home equity loans. They underwrite these loans much like any other type of home loan. Each has specific guidelines it follows to determine your eligibility criteria based on your credit score, income, and the value of your home. The rates and loan amounts you can take out also vary depending on the bank, so comparison shopping may help you get the best deal.
Home equity loans are also available at many credit unions. Each credit union will offer different rates and terms of payment. With some credit unions, you may borrow up to 100% of your home equity. You may also apply online or at your local branch.
Home equity loans are also available through mortgage brokers. Most let you start the loan application process online and provide multiple loan products, including conventional loans, jumbo, VA, FHA, and refinance loans. Each loan product has a minimum personal credit score you must meet to qualify.
Mortgage brokers may help you find the best loan deal since they offer a wider selection of loan products and terms from several lenders.
How To Compare Home Equity Loans
Comparing home equity loans from several lenders or mortgage brokers may help you get the best deal. You could start by asking family members and friends for recommendations of lenders. By preparing in advance, you can research different offerings and better negotiate.
Here are some factors to consider when comparing home equity loans:
- Your loan options: The first step toward comparing home equity loans is asking your lender about the loan options available to you. In most cases, you’ll have to choose between fixed-rate and variable-rate loans.
- Annual percentage rate (APR): APR is important to consider when comparing home equity loans. It is the total yearly interest payment expressed as a percentage. APR includes the interest rate, broker fees, mortgage insurance, and other charges.
- Your credit score: Your credit score is a number lenders use to determine whether you qualify for credit. This information helps them predict how likely you are to repay your loan, and whether you are likely to pay on time. Different types of loans may have different qualifying requirements.
- Prepayment penalty: With some loans, you may face a penalty if you pay off your home loan early. So you might choose to keep a loan with a high interest rate if paying the prepayment penalty would be more expensive.
- Balloon payments: A balloon payment is a one-time payment at the end of your loan term to pay off your remaining balance. It’s often larger than your normal monthly payment. Check whether a home equity loan will require a balloon payment.
Consider negotiating with several lenders and brokers. You could ask each to lower their fees or interest rate or beat the terms you have from another lender. Even so, be wary of terms that seem too good to be true. For instance, ensure your lender isn’t promising to lower one fee while raising another.
Here are other loan terms you should understand:
- Low or fixed rate: Some lenders may offer low or fixed interest rates that are only effective for a short time, sometimes as short as 30 days. Your rates and payment may increase after this introductory period. Look at the APR to understand the total cost of your loan.
- Low monthly payments: A low monthly payment can help your cash flow, but you may face a higher payment toward the end of your loan. A very low payment means you’re probably only paying interest, and you would still need to pay the principal when the loan term expires, usually in the form of a balloon payment.
- Paying only a portion of the interest: Some lenders may let you make partial payments on the monthly interest you owe. While this may sound ideal, the unpaid interest then increases what you owe. This is called negative amortization.
Home Equity Loan Rates
Comparing interest rates while shopping for a home equity loan can help you save money in the long term.
Home equity loans typically have fixed rates set when your loan application is approved and do not change. With a fixed-rate loan, you know how much you’ll pay in monthly payments for the entire loan term. In contrast, adjustable rates fluctuate with changing market conditions, resulting in the amount of your monthly payments also changing.
Generally, interest rates on home equity loans are lower than the rates on personal loans and credit cards, but higher than the rates you’d get on a primary mortgage.
Lenders use different assessment criteria to determine your loan rates.Generally, rates are determined based on factors such as the current market value of your home, mortgage balance, loan amount, and payment term, as well as your income and credit history. If you have significant equity and a higher credit score, you will most likely qualify for lower rates.
Be careful when comparing the APRs of adjustable-rate mortgage loans since the APR doesn’t portray the maximum interest rate of the loan.
Home equity loan rates vary from state to state and among lenders. Check with your broker or visit your lender's website for the latest rates. Locking in a rate merely half a percentage point lower may, for example, save you several thousand dollars on a 15-year loan.
How To Apply for a Home Equity Loan
Once you’ve found a lender, you’ll need to apply for the home equity loan. You can start a home loan application online or over the phone. You may also visit your lender’s physical location to submit your documents.
To get the loan, you’ll first need to qualify, which means your lender will assess your credit score, income, and equity. To determine how much money you can borrow, the lender will get an appraisal of your home for an estimate of how much it’s worth. Most lenders will let you borrow up to 80% of your home’s equity value, although the cap can be higher.
Lenders may also assess your debt-to-income (DTI) ratio to see how much of your monthly income is already servicing debt. The benchmark debt-to-income ratio to qualify for a home equity loan is 43%. The lower the percentage, the more likely you will qualify for a home equity loan.
After both assessments, your lender will let you know if you’re approved and for what amount. You should also receive details of the loan, including the term, interest rate, and monthly payments. Then, at closing, you’ll sign the loan paperwork and pay any closing costs.
If you want to cancel the home equity loan for any reason, you’ll have three days to inform your lender in writing.
Frequently Asked Questions (FAQs)
How much can I borrow with a home equity loan?
The maximum amount you can borrow with a home equity loan depends on the amount of equity in your home, your income, and your credit score. Many lenders will let you borrow up to 80% of your home’s equity.
Which is better, a refinance or a home equity loan?
If you’re already paying higher interest rates, refinancing will replace your existing mortgage with a new one with a lower interest rate. However, a home equity loan may be a better option if you want to consolidate debt or if you need funds for other expenses, such as making renovations.
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