Home equity loans and home equity lines of credit (HELOCs) both enable you to borrow against the equity in your home. Your home’s equity is the value of your home minus any outstanding mortgage or home loan balances. A home equity loan typically provides borrowers with a fixed interest rate for borrowing a lump sum of money. The funds are disbursed upfront. Because the interest rate is fixed, monthly payments will remain the same for the term of the loan or until the balance is paid. Repayments begin as soon as the loan is disbursed. This is ideal if you are looking for a preset payment you can depend on.
A HELOC on the other hand is a line of credit, similar to a credit card. It’s a bit more flexible than a home equity loan. You are approved for a certain credit line total, which is based on your home’s equity. You can borrow from the line as you need it anytime during the draw period, up to the max credit limit. HELOCs typically have a variable interest rate. This means the rate may change during the term of the loan, depending on the index used. If the rate changes, your monthly payment may change as well. You pay back based on what you borrow, slowly over time. During the repayment period, you will no longer be able to draw on the line and will be required to make payments based on the outstanding balance.
What can a Home Equity Loan or HELOC be used for
You can use the funds from a home equity loan and HELOC for just about any reason at all. Examples include:
- Major repairs
- Home improvement projects
- Home renovations
- Tuition and other education costs
- Weddings
- Debt consolidation
- Large purchases
- Medical bills
- Emergency expenses
The best home loan for you is based on your needs
Home equity loans are a good choice for one time large expenses. This might include an expensive auto repair, a kitchen or bath remodel, a landscaping project, or consolidation of high-interest credit card debt. When you know the exact cost of a project or another expense, a home equity loan is a good option. Because the funds are distributed in a lump sum, you pay for the expense and then begin the monthly payback of your loan. It’s also a better option when you prefer a fixed interest rate that won’t change and a payment that will fit into your budget.
HELOCs are a better choice when you have upcoming expenses that may be spread out over time or are unsure of the exact total you will need. A HELOC enables you to have funds available to borrow when you are ready. For example, if you have a large home remodel project that encompasses different areas of your home or different phases of work, and you expect it to take some time. A HELOC will enable you to pay expenses as they occur. This is a big benefit as you will only be paying interest on the amount you have drawn. HELOCs may also be a better option when planning a large event, such as a wedding, when expenses will be paid over time, or educational costs that may be spread out. A HELOC is a good choice when you don’t mind if your payment fluctuates over time. It also enables you to re-borrow from your line as you pay down the balance without having to apply for another loan.
Applying for a Home Equity Loan or HELOC
For both home equity loans and HELOCs, lenders require you to have adequate equity in your home, a steady income, and a good credit score. The loan you qualify for is based upon the value of your home, the outstanding balances of a mortgage and any other home loans, and your credit score, as well as your ability to repay. A lender will consider your combined loan-to-value ratio (CLTV). This is calculated by taking your current outstanding home loan balances, plus your potential home loan amount, and then dividing it by your home value. The percentage of equity a lender will allow you to borrow may fluctuate between lenders. Oftentimes is approximately 80% of the total equity built in a home.
If you are considering a home equity loan or HELOC for a large expense, begin by examining your budget to determine a total monthly payment you can afford. Remember that a home equity loan provides predictability in payments, while a HELOC offers flexibility. A home equity loan is a good option for people who need funds for a one time event and prefer the security of a fixed rate. A HELOC is a better answer for those who need access to cash over a period of time. HELOC rates are adjustable, so they may rise over time.
Click to learn about a Choice One Community Credit Union fixed-rate home equity loan or low rate HELOC. You can apply conveniently online for either loan.
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