Looking for information on home equity loans? Read our guide below and find a lender with the best rates. Owning a home is what many call the American Dream. You work hard, save your money and finally have a place of your own. Whether you’ve started a family or are enjoying the empty nest, you’ve slowly begun to amass equity in your home. Now you’re thinking about how you can upgrade your home, add a screened in porch or upgrade the landscaping, but not sure you want to pay for it right now. That where a home equity loan comes in.
What is a Home Equity Loan?
A home equity loan is an installment loan that allows you to access the equity in your home and use that money for several things. Home equity loans typically are variable or fixed interest rates that are repaid over a specific period of time. The process is similar to when you obtained your first mortgage, including the paperwork. This time however, depending on certain variables you may only need an outside appraisal or fewer supporting documents. Beyond that, there are several similarities between your first and second mortgage, which is what a home equity is often referred to.
How a Home Equity Loan Works
How a home equity loan works is fairly simple. First, you need to have lived in your home for some time to build up equity. If you just moved in, then you will not be able to take out a home equity loan. From there, you simply walk into the financial institution of your choosing and begin the process. Taking out a second loan will put this lender in the second lien position, which is typically the most amount of lien holders you can have against your home. Once approved, the funds will be given to you in one lump some payment, and you will be on your way. Be sure you look at the amortization schedule because that’s when you’ll begin paying back the loan and how much.
Home Equity Loan Interest Rates for 2019
Thankfully, if you are looking to take a home equity loan the current interest rate environment is playing in your favor. As rates continue falling your interest expense falls with it. Many institutions peg their rates to the Treasury yield or LIBOR. These rates are in constant flux and the rate you see today may not be the rate you get next week. If you think rates will continue lower then you may want to research a variable rate. Keep in mind though if rates begin to rise, your payment will rise with it. On the other side, you can lock in your rate right now with a fixed rate and know exactly what you’ll be paying for the life of the loan. That said, typical rates fall anywhere between 3% – 5%. In fact, the Fed just reduced rates by 0.25% on July 31, 2019.
How Do Lenders Calculate Home Equity Loans?
The calculation of a home equity loan is fairly straight forward and after seeing the example, you’ll understand why. If you are new to your home you won’t have access to a home equity loan. Lenders will use the difference between what you owe and how much equity you’ve built to determine your loan amount. For example, if you have a $100,000 home and you have a mortgage for $75,000, then you have $25,000 of equity in your home.
Now a lender won’t give you all $25,000 because that would bring your loan to value up to 100%, which is a risky loan. Instead, they will likely give you $15,000, which brings your LTV to 90%.
The reasons for this is, should you stop paying on your loans and the bank eventually has to sell your home, there’s already a 10% buffer built in in-case they don’t get full value for your home. Each bank is different so be sure to check with them on what their limits and thresholds are.
How Can I Use a Home Equity Loan?
You can use a home equity loan for nearly anything because the money is yours. As mentioned, when you agree to the terms you are given a lump sum payment. This means you can use the money to fix up your home, build an addition or go on that dream vacation. Keep in mind though once that money is gone you can no longer tap your homes equity until the note is paid off. Instead, use that money wisely and if you do fix your home, the value should increase, thus increasing your equity in the process.
An advantage of a home equity loan is you can gain access to all the equity in your home without selling the property. You’ll have your money in one lump sum deposit and from there you can use the funds how you see fit. Another advantage is you can relatively inexpensively access your money. With rates easily between 3% and 5%, now is the most opportune time to access your homes equity. Compare this to credit card rates that can be north of 20% and you already see the benefits.
One of the disadvantages of home equity loans is you have to pay to access the value in your home. Yes, the rates are certainly low, but it will still cost you money to access your equity. Be sure you know what you’ll do with the proceeds to ensure your financial health remains intact. Another disadvantage is it’s a lump sum payment. Granted, you can request only what you need but if you are unsure, you’ll have to borrow more than you may need. Take the time to know what the costs of your plans are and try to only take out what you need.
Home Equity Loans vs. Home Equity Line of Credit
Now, there is second similar product on the market that’s called a home equity line of credit or HELOC for short. A HELOC is an open line of credit that uses your home’s equity as collateral. This means you may have a line for $60,000, but unlike the home equity loan you are not forced to use it. Another main difference is the repayment and usage period. With a home equity line of credit, you typically have 10-years to draw on the line and 10-years to repay it. That means if you took out $60,000 you only have 10-years to repay the money.
Overall, a home equity loan is a wonderful way to access the value in your home you’ve worked so hard to build. However, to prevent from over borrowing ensure you have the costs of your plans laid out and only take out what you need. With interest rates being low, now is a good time to go shopping and see what you can find.