Home equity credit lines (HELOC) and equity loans are loans that use your home as collateral and both can be great for borrowing money if you have repaid a significant portion of your mortgage. HELOC is a line of credit that allows you to borrow money as needed at a variable interest rate, while a home equity loan is a lump sum that is disbursed in advance and repaid in fixed installments.
Most mortgages and HELOCs allow you to borrow up to 85 percent of the value of your home, minus the outstanding balance of your mortgage. These economical options tend to have low interest rates and fair terms because they use your home as collateral. Before settling on a home equity loan or credit line, shop around to find an option with the lowest commissions – or no commissions, if possible.
What are the differences between a HELOC loan and a mortgage loan?
If you have equity in your home and want to borrow money, you can choose a HELOC loan or equity mortgage. Below are some of the major differences between these options.
|Mortgage share loan||HELOC|
|Monthly payments||The same every month||Changes over time|
|Disbursement of funds||One-time deposit||As required|
|Repayment terms||It starts as soon as the loan is disbursed||Interest-only payments during the draw period. repayment of capital and interest thereafter|
What is a home equity credit line?
A home equity credit line (HELOC) is a credit line similar to a credit card. You can borrow up to a certain amount of your home equity and repay the funds slowly over time.
HELOCs allow you to access money when you need it and repay it at a variable interest rate. Because of this, you are not locked into a specific monthly payment. This is good news for homeowners who do not know exactly how much to borrow and want to pay interest only on the money they have access to.
- Borrow only the money you need.
- Many HELOCs come with no charge.
- Flexible repayment options.
- Possible tax deduction.
- Variable interest rates change based on market fluctuations.
- Having a long-term credit line runs the risk of overspending and having more debt to repay.
- You may lose your home if you default to HELOC.
If you want the flexibility to borrow as much or as little money as you need over time, a HELOC makes sense. You may want to follow this path if you are not sure exactly how much it will cost to fund your project or venture.
What is a home equity loan?
A home equity loan is a secured loan that allows you to borrow against the equity of your home at a fixed interest rate and repayment period. The interest rate depends on your credit score, payment history, loan amount and income. If your credit improves after you take out a home equity loan, you may be able to refinance at a lower interest rate.
How you use your home equity loan is up to you. Some people use it to pay for major repairs or renovations, such as adding a new room, launching and remodeling a kitchen, or updating a bathroom. You can also take out a home equity loan with a low, fixed interest rate to pay off your high interest rate credit card debt.
- Fixed interest rate means the same predictable monthly payment.
- Borrow a lump sum that you can use for anything.
- Some mortgages have no commission.
- The interest on the loan may be tax deductible.
- The best mortgage interest rates and loan terms are aimed at consumers with good or excellent credit or a FICO rating of 670 or higher.
- You need a lot of domestic equity to qualify – usually 15 percent to 20 percent or more.
- If real estate values fall, you may be upside down on your mortgage, which means you owe more than your home’s worth.
- You may lose your home if you default on the loan.
If you have a specific project in mind and know exactly how much it will cost, a home equity loan can be a smart choice as it can offer you a lump sum. Just make sure you do not plan to borrow more money in the near future.
How do I choose between a mortgage and HELOC?
A home loan could be better if:
- You know the cost of your project and you need to borrow a lump sum.
- You prefer a fixed interest rate that will never change.
- A fixed monthly payment works best for your budget.
- You want to consolidate high interest rate credit card debt with a lower interest rate.
A HELOC could be better if:
- You want to borrow as little or as much as you want, when you want.
- You have future expenses such as college tuition and you do not want to borrow until you are ready.
- You do not care if your payment fluctuates.
How does the coronavirus affect mortgages and HELOCs?
You can get a mortgage or credit line while interest rates are close to all-time highs right now – even when the economy is still recovering from the COVID-19 pandemic
But keep in mind that a home equity loan or credit line works as a second mortgage. If a borrower is fired and defaults on the loan, the principal mortgage must be repaid first using the current value of the home (which may have fallen during a recession).
Only after full repayment of the first mortgage can the mortgage lender recover the outstanding debt from any value left over from the collateral, which may not cover the entire loan. Because of this, qualifying for a home equity loan can be difficult as the coronavirus pandemic continues. Some lenders have stopped housing equity products altogether.
How do you get a HELOC loan or equity mortgage?
While eligibility requirements for home equity products may have become more stringent as a result of the coronavirus pandemic, options are still available for eligible borrowers:
- Important capital in your home: You will probably need to have at least 20 percent equity in your home or an 80 percent loan-to-value ratio, which means that the balance of your mortgage and any existing equity loans does not exceed 80 percent of the value of your home.
- Good credit: Although lenders’ requirements vary, you will generally want to have a credit score in the mid-600s to qualify and a score above 700 to get the best interest rates and terms. Some lenders also require a higher credit score for higher loan amounts.
- Low debtMany home equity lenders require a debt-to-income ratio of 43 percent or less. This means that monthly debt payments do not make up more than 43 percent of your gross monthly income.
- Adequate income: You need to prove that you can repay your loan, even though most lenders do not disclose their income limits.
- Reliable payment history: A long history of timely payments to other accounts can help you qualify for a home equity loan or HELOC. Late payment history makes qualifying more difficult.
Can you have a HELOC and a mortgage?
Theoretically, there is no limit to the number of mortgages or credit lines you can hold at a time. But it will be more difficult to qualify with each new application because you will have less and less equity to lend with each loan.
For example, if you own a $ 500,000 home and have two equity loans totaling $ 425,000, you have already borrowed 85 percent of your home value – the ceiling for many home equity lenders.
Lenders may also charge higher interest rates on additional loans or credit lines, especially if you are applying for a second loan from the same lender.
Home equity loans and home equity credit limits can allow you to borrow money against your home equity. But it is not the same. Before deciding which option is best for you, consider the purpose of the funds, how much you need and whether you will want to borrow more in the future. Once you have made a decision, get your credit in good condition and shop to secure the best price.