A Home Equity Line of Credit (HELOC for short) is a financial tool that enables homeowners to capitalize on the equity built up in their homes, in the form of a credit line. It is similar to a secondary mortgage, with the main mortgage having the first claim on the property. Have you ever had to pick between a HELOC and a Home Equity Loan?
The latter is another financial route homeowners can take, as it enables them to procure a set amount of money, using their home equity as a security deposit. Both options facilitate borrowing against the value of your home. Each has unique elements and carries with it a series of pros and cons.
Let’s delve into a comparison of a home equity loan vs. a HELOC, by exploring both their advantages and caveats, to assist you in finding the one that best aligns with your needs.
HOME EQUITY LINE OF CREDIT (HELOC)
Advantages:
Much like a credit card, a HELOC operates as a rotating credit line, where one can borrow, repay, then borrow again. This makes it an adaptable solution for ongoing expenditures or projects.
HELOCs typically entail lower setup costs than home equity loans, hence making them more cost-effective to establish.
The interest rates for HELOCs are variable, which can be beneficial if the rates decrease, leading to lower borrowing costs.
HELOCs offer the convenience of drawing funds as needed, within a pre-agreed credit limit, over an extended period.
In certain scenarios and with respect to current tax laws, the interest on HELOCs may qualify for tax deductions.
Downsides:
Although variable interest rates could be advantageous, they could also inflate interest costs if the rates increase.
HELOCs might prompt borrowers to acquire more debt than manageable due to their revolving nature.
Failure to repay the loan could result in losing your home.
HOME EQUITY LOAN
Advantages:
These loans come with fixed interest rates, guaranteeing predictable monthly payments.
You can secure a one-time lump sum, which could be practical for specific expenses or debt consolidation.
Home equity loans follow an organized repayment schedule, ensuring better budget planning and forecasted repayments.
Downsides:
Increasing interest rates could drive up your payment.
Non-repayment could result in losing your home.
GETTING A HELOC AND A HOME EQUITY LOAN
Here’s a brief outline on how one can acquire these loans, from application to closing, and everything in-between, including credit requirements and additional fees.
1. Self-assessment:
Obtain your home’s current market value and calculate your equity (the difference between the value of your home and what you owe on your mortgage).
Determine your financial requirements and decide on the amount you desire to borrow.
2. Lender Research:
Look at different lenders such as banks, credit unions, and online platforms, all while keeping an eye out for competitive interest rates and terms.
Seek advice from friends, family, or financial advisors for lender recommendations.
3. Application:
Understand your Home Equity, which indicates the proportion of your home you actually own.
Maintain a good credit score (between 300 and 850) as it represents your ability to manage debt effectively.
The lender will assess your Debt-to-income ratio (DTI), which mirrors your fixed monthly debt compared to your gross monthly income.
4. Property Appraisal:
Your lender may ask for an evaluation to assess the current market value of your home.
5. Credit requirements:
Request your credit report to gauge your creditworthiness. A commendable credit score could secure better terms. Aim for a minimum score of 620 for a home equity loan.
6. Closing costs:
These costs encompass your application fee, title search, attorney fees and other associated costs. Ask your lender for details regarding potential closing costs.
7. Loan terms and Closing:
After approval, the lender will offer you the loan terms including interest rate, loan amount, and repayment schedule. Review it carefully.
If the terms are agreeable, you may accept the offer by signing the loan agreement. The lender will then finalize the paperwork and payment of any closing costs or fees.
In conclusion, the decision between a HELOC and a home equity loan ultimately hinges on your financial objectives and personal preferences. A home equity loan provides a substantial upfront sum that you pay back with fixed installments at a fixed interest rate. A HELOC offers on-demand access to your home’s equity up to a certain limit. Remember, using your home as collateral carries its own risks. Failure to make payments could result in losing your home altogether.
From SmartAsset.com
