Reasons to use home equity loans

A home equity loan makes sense for a large, upfront expense because it’s paid in a lump sum. If you have smaller expenses that will be spread out over several years, such as multiple home projects or college tuition payments, a home equity line of credit, or HELOC, may save you money on interest. Top uses of home equity loans include:

• Making substantial home improvements.
• Consolidating higher-interest debt, such as credit cards.
• Buying a vacation home or investment property.
• Paying for college tuition or expenses for yourself or a child.
• Starting a business.

What are some benefits and drawbacks of home equity loans?

Home equity loans are best suited for people who know how much they need as they’re distributed in one lump sum. Additionally, they’re a good option for folks who want to use the funds for home improvements. The reason for this is that the interest you’ll pay is tax deductible if the money is used for renovation.

Conversely, if you use home equity loan funds for any reason aside from substantial home improvements, such as paying off student debt or consolidating credit card bills, the mortgage interest is no longer deductible under the new tax law.

Another benefit of home equity loans are the competitive interest rates, which are usually much lower than personal loans and cash-out refinances. Be sure to compare lenders’ rates for the best deal available.

Pros and cons of home equity loans

Pros	Cons
Lower interest rates than unsecured debt such as credit cards or personal loans. Fixed monthly payments Mortgage interest may be tax deductible	Closing costs can be expensive Risk of losing your home if you are unable to make the payments, or ending up underwater on your mortgage if home values drop The ease of tapping home equity makes overspending a risk; spend a home equity

Why is now a good time to use a home equity loan?

If you’ve been considering a home equity loan, now is the time to lock in your rate. Rates have been slowly moving higher, but they’re still lower than historical benchmarks. If you get a fixed-rate loan, which most home equity loans are, you will end up saving money in the long run if rates continue to climb.

How to calculate home equity

Over time, you build up equity in your home as you make payments on your mortgage. You’ll need a substantial amount of equity in your home to qualify for a home equity loan.

Home equity is defined as the value of your home minus any amount you still owe on your mortgage. The amount you’re eligible to borrow for a home equity loan is based on your loan-to-value, or LTV, ratio. A home equity calculator can help you figure out how much you can borrow.

Eligibility

In addition to having enough equity, lenders will also factor in your credit score, LTV ratio and income when determining whether to approve you for a home equity loan.

Minimum requirements generally include a credit score of 620 or higher, a maximum loan-to-value ratio of 80 percent and a documented source of income.

Alternatives to home equity loans

Before taking out a home equity loan, ask yourself whether there are other options for financing that might be appropriate for your situation. For example, if you don’t need the money all at once in a lump sum, a HELOC could save you on interest costs. A cash-out refinance is another option, especially if your original mortgage has a higher interest rate than what’s available in the current market.

How to apply for a home equity loan

Prepare for a home equity loan application by checking your credit, calculating your home equity and taking stock of how much other debt you already have. Many lenders let you start the application process online by entering your personal and financial information. During the approval process you’ll be asked to provide supporting documentation such as your government-issued identification and pay stubs. You may need to pay fees for a loan application, credit check and home appraisal.

Home equity loan FAQs

If you have more questions or are still unsure about home equity loans, here’s a list of questions and answers to help you better understand the product.

What is home equity?

Your home equity is calculated by subtracting how much you still owe on your mortgage from the appraised value of your home. Home equity is one way to measure your personal wealth.

What is a home equity loan?

A home equity loan is based on the equity of the borrower's home. Unlike a HELOC, you receive all of the money upfront and then make equal monthly payments of principal and interest for the life of the loan (similar to a mortgage).

Where can I get a home equity loan?

A variety of banks and lenders offer home equity loans. It’s always a good idea to shop around with a few lenders to compare rates, fees and loan terms.