What a difference a year can make. At the end of 2021, home equity loan rates averaged just under 6 percent, while average rates on home equity lines of credit (HELOCs) stood in the 4s. Now, aggressive rate hikes from the Federal Reserve are making borrowing quite a bit more expensive — and yet, that hasn’t scared away homeowners wanting to tap their equity.

Why borrowers keep leveraging home equity

With a home equity loan or line of credit, you’re putting a portion of your home’s equity — what you owe on your mortgage versus the value of your home — on the line in exchange for funds to do with as you wish. A home equity loan is a lump-sum second mortgage, repaid just like your first mortgage in installments. With a line of credit, you can draw from the allotted limit as needed, typically only paying interest at a variable rate for a 10-year period, then repaying what you borrowed after that.

While home equity loans are useful for a fixed expense, they’re limited in that you might borrow too much or too little than what you need. Given the flexibility of a HELOC, the number of new home equity lines of credit jumped to more than 341,000 in the second quarter of 2022 — a 44 percent increase year-over-year, according to ATTOM. Homeowners tapped more than $66 billion in equity during the three-month period, even as home equity loan rates shot up, now in the 7 percent range.

With borrowing costs going up, why are homeowners still taking advantage of HELOCs and home equity loans?

For one: Lofty equity gains in the past year. About half of homeowners are in so-called “equity-rich” territory, meaning their mortgage balance is half or less than what their home’s worth, ATTOM reports.

The lure of that cushion has outweighed the higher financing costs for many, and in a lot of cases, it’s because they’re looking to put that money back into their homes. In fact, 55 percent of homeowners planned to renovate this year, with the median spend expanding to $15,000, according to a study by Houzz.

Since many aren’t sitting on extra savings for remodeling, they’re exploring other ways to pay. Thirty-five percent of respondents to the Houzz study indicated they were going to use credit cards to pay for home projects. Depending on the scope of the project, a zero-percent introductory APR card can help keep financing costs to a minimum, but only if you have the wherewithal to pay off the balance when the time comes, usually within 21 months or less. After that, the standard APR kicks in — often in the double digits, higher than the rates on home equity loan products today.

“Homebuying activity is slowing down dramatically,” says Rick Sharga, executive vice president of Market Intelligence with ATTOM. “With more homeowners deciding to stay in place, there will probably be more home improvement projects being done, and HELOCs are a relatively affordable way to pay for those projects.”

In other cases, homeowners might be aiming to actually pay off that high-interest credit card debt. A 7 percent rate on a HELOC or home equity loan saves you much more compared to the 18 percent APR attached to the typical credit card.

“Even with rising rates, HELOCs are a relative bargain compared to personal loans or traditional credit card purchases,” says Sharga.

Some savvier homeowners might also be trying to get a lead on the slowing housing market. As home price gains moderate (and in some places, fall), the equity opportunity will shrink with it.

Why a HELOC, though, and not cash out? The refinancing rush that marked much of 2020 and 2021 netted homeowners some of the lowest rates on record — a deal many aren’t willing to give up any time soon.

“Many borrowers have now locked into historically-low rates on their first mortgage, which makes a cash-out refinance a costly option for tapping the equity in the home,” says Adam Boyd, senior vice president, head of Home Equity Lending at Citizens Bank — “even if mortgage rates eventually come back down somewhat.”

How to get the best home equity lending rates

Whether you’re hoping to break ground on that new kitchen or pay off that oversized credit card balance, a HELOC or home equity loan still present less-expensive means to those ends. While there are differences in how each product works, the process of shopping around for one remains the same. Here are some tips:

1. Calculate your equity

You know your home’s value has gone up, but you’re not sure where exactly you stand. Estimate your home’s equity by taking the difference between the value of your home and what you still owe on your mortgage. The best determination of value would come from a licensed appraiser, but for a rough idea, look at an online home price estimator like Zillow’s Zestimate. Once you have a number, find your mortgage balance on your most recent statement, and do the math.

Keep in mind: You can’t borrow it all. Most lenders limit you to 80 percent or 85 percent of your equity. For example, if your home is worth $380,000 and you still owe $120,000, you’d be able to access up to $184,000 (assuming you qualify).

2. Get your credit in excellent shape before you apply

While some home equity lenders do approve applicants with lower credit scores, the rule that applies to every loan still rings true: Borrowers with higher credit scores always secure the lowest rates.

If you don’t know your credit scores, start there. The three major credit reporting bureaus, Equifax, Experian and TransUnion, now allow you to access your reports free on a weekly basis through 2023.

If your score isn’t 700 or higher, take steps now to improve it by staying on top of payments and lowering your credit utilization to no more than 30 percent of your limit, at max. It can take some time for your score to change, so the sooner you start, the better.

“It would not be uncommon for a 20-point move in FICO score to impact pricing by 0.50 percent to 1.50 percent, especially for borrowers with sub-700 FICO scores,” says Boyd. “I would encourage borrowers to shop around to find the best offer.”

3. Start your search where you’re already doing your banking

While there are several types of home equity lenders, begin with the place you already know: your bank or credit union. A lot of institutions offer rate discounts — 0.25 percent or 0.5 percent savings — for customers who set up auto-pay from checking or savings accounts. Check out an offer or two from an online-only lender, as well — if eligible, you might be able to get your funds sooner, or for a lower cost.

4. Look for conversion options

Rates are still on the rise, and the Fed’s continued fight to tame inflation means that variable-rate loans like HELOCs are going to increase in tandem. Some lenders, however, allow borrowers to convert a line of credit to a fixed-rate loan. For example, you might opt to switch over $25,000 of a $75,000 HELOC to a fixed-rate loan to avoid the shock to your budget down the road.

5. Watch for fees

Some home equity lenders charge an annual fee on lines of credit, or charge you for early termination (a type of prepayment penalty). While $75 per year might sound like a nominal expense, keep in mind that HELOCs often come with a 10-year draw period and 20-year repayment term. Over 30 years, you’d be paying $2,250 in fees. The closure fee, on the other hand, might run you a few hundred bucks.