The year 2020 has been packed full of health and financial challenges for many Americans. Yet for home equity borrowers, there’s been some good news too. Interest rates are low, and the Federal Reserve has indicated that they’re likely to stay that way for the foreseeable future.
In many situations, leveraging the equity in your home can be a smart strategy. Home equity loans can help you accomplish big-ticket goals like paying for a child’s education, making major home improvements and consolidating higher-interest debt. Better yet, when you borrow against your home equity, you may be able to reach these goals at a low interest cost and without pulling money out of savings.
Home equity rates in 2020: Initial predictions vs. reality
At the beginning of 2020, no one could have accurately predicted all of the events that would unfold this year. In January, Federal Reserve officials decided to keep rates as they were after cutting rates three times in 2019. The Fed also indicated that further rate cuts were unlikely in the near future.
Yet despite early predictions, further rate reductions took place. On March 15, the Fed lowered benchmark rates to 0 to 0.25 percent, marking the biggest emergency rate reduction in its 100-plus year history.
When the Federal Reserve adjusts its rates, it can affect the interest rates lenders offer borrowers as well. Mortgages, HELOCs and home equity loans are just a few examples of the types of financial products that may undergo rate fluctuations based on the actions of the Federal Reserve.
Bankrate’s weekly rates survey in late March found the average rate for a $30,000 HELOC to be 5.43 percent. By September 2020, that same average rate dropped to 4.55 percent. The same survey found that the average rate for a $30,000 home equity loan was 5.81 percent in late March compared to 5.11 percent in September.
What will home equity rates look like for the remainder of 2020?
So, what does the rest of 2020 look like for homeowners with equity loans and those thinking about borrowing against their home equity?
“On the outlook for rates between now and the end of the year, I would look for low rates to persist, barring the truly unforeseen,” says Mark Hamrick, senior economic analyst with Bankrate. “The path of the economy, markets and interest rates remain somewhat aligned with the COVID-19 outbreak, particularly before availability of safe and effective vaccines.”
Hamrick also notes that “the Federal Reserve has basically said that benchmark rates will not be changed for the next three years. That’s a forecast from them, not a promise.”
Lenders have tighter eligibility requirements
Another side effect of the tumultuous year we’re facing is the fact that lenders have tightened lending standards across the board for financial products. Whether you apply for a HELOC, a home equity loan or some other type of financing, you may have a harder time qualifying than you would have a mere year ago.
“Lenders broadly are being more careful about qualifications given heightened unemployment and diminished incomes in the wake of the downturn earlier this year,” says Hamrick. “Earlier this year, we began to see lenders pulling back on HELOCs. As is always the case, it pays to shop around for the best rates, no matter what financial product one is seeking.”
Common types of home equity financing
There are several ways you can leverage your home equity to borrow money. Two of the most popular financing options available are home equity loans and home equity lines of credit.
- A home equity loan is a lump-sum loan repaid with a fixed interest rate and a fixed monthly payment.
- A home equity line of credit (HELOC) is a revolving credit line that works similar to a credit card and has a variable interest rate.
Both types of home equity financing above are collateralized by your home. It’s critical to remember that because if you can’t repay the money you borrow, you can lose your home in foreclosure.
Top home equity strategies
There are many good ways to use your home equity to your advantage, and there are a few that may make the most sense as interest rates remain low.
Some homeowners took out HELOCs so that they could tap their home equity while keeping the low rate on their first mortgage, says Michael Becker, loan originator and sales manager at the Baltimore retail branch of Sierra Pacific Mortgage. For those borrowers, refinancing their first mortgage and the HELOC into one new first mortgage is an option if the math checks out.
Homeowners who have low rates on their first mortgages must make sure that refinancing will save them money. You can use a home equity loan calculator to help you compare the numbers and make a decision about what works best for your situation. “If they have a small balance on their first mortgage and a large balance on the HELOC, then there is a good chance it makes sense to refinance,” Becker says.
If you want to access financing using your home equity as collateral, a cash-out refinance is another option you may at least want to consider. With a cash-out refinance, you pay off your existing mortgage and replace it with a home loan for a larger amount. Your new lender then gives you the difference between the two loans, minus fees.
“Certainly, as we’ve seen mortgage interest rates slip to record low levels, many Americans have seized upon the refinancing opportunity,” says Hamrick. “Many more could still take advantage of these low rates.”
Hamrick does recommend that homeowners think through the pros and cons of cash-out refinancing before they move forward. He points out that a new 15- or 30-year loan is a long commitment in terms of the time being used to pay it back, assuming they stay in the home that entire time.
Paying down credit card debt
For homeowners who already have a low interest rate on their first mortgage, taking out a HELOC to pay off higher-interest credit cards can be cost-effective. However, borrowers need to think carefully before choosing this option.
“Consolidating credit card debt onto a home equity line of credit will reduce the interest rate on your debt, but it doesn’t reduce the amount of debt and it doesn’t insulate you from rising interest rates as you’re moving from one variable-rate product to another,” McBride says.
When you pay off credit cards using home equity, you are swapping unsecured debt for secured debt. You risk the roof over your head if you can’t make the payments.