Applying for a Home Equity Loan

If you need to borrow money for home improvements, a home equity loan or home equity line of credit (HELOC) may be useful. Initially, at least, these home loans provide you with money at relatively lower interest rates. They may also give you certain tax advantages, such as tax-deductible interest payments. Check with your tax adviser to make sure.

This article answers the following frequently asked questions (FAQs) about home equity loans and home equity lines of credit.

• What Are Home Equity Loans and Home Equity Lines of Credit?
• How much money can I borrow?
• Why should I get a home equity loan?
• Are home equity loans risky?
• How do I apply for a home equity loan?

What are Home Equity Loans and Home Equity Line of Credit?

A home equity loan allows you to use your home as collateral to borrow money. Like a personal loan, the loan amount gets taken out immediately. But unlike a personal loan, your primary house secures the loan. As a result, you'll normally be able to get better loan rates (akin to mortgage rates).

A home equity loan is like a fixed-rate mortgage loan that a homebuyer takes out, except the borrower uses it for other expenses that are incident to homeownership. You'll need to continue making loan payments for the life of the loan. Like your primary mortgage, you'll have a lien on your house for the period of time that a loan balance exists.

A home equity line of credit (HELOC) is like a home equity loan in that your home secures it. If you sell your home, you must pay off your mortgage and HELOC at that time. But a HELOC is different because it's a revolving line of credit you can draw as needed. Instead of getting a lump-sum payment, you can borrow as much as you need up to your HELOC credit limit. A HELOC is also different because most lines of credit come with a variable interest rate.

How Much Money Can I Borrow?

Depending on your creditworthiness (your income, credit rating, etc.) and the amount of your outstanding debt, home equity lenders may let you borrow:

1. Up to 85% of the appraised value of your home
2. Minus the amount you still owe on your first mortgage, also known as loan to value.

Ask the lender about:

1. The repayment period of the home equity loan
2. Whether there is a minimum withdrawal requirement when you open your account
3. Whether there are minimum or maximum withdrawal requirements after you open your account.

Ask how you access your credit line: with checks, credit cards, or both.

Also, find out if your home equity plan sets a fixed draw period when you can make withdrawals from your account. Once the draw period expires, you can renew your credit line. If you can't, you can't borrow more funds. In some plans, you may have to pay your full outstanding balance. In others, you can repay the balance over a fixed time.

Why Should I Get a Home Equity Loan?

The influx of money from a home equity loan is often best spent as an investment. Ideally, it should reliably create more wealth that outpaces the interest. A renovation or debt consolidation might achieve these goals.

Depending on the terms of your lender, you can use home equity loans and lines of credit for:

• Down payment on a second home or investment property
• Paying off higher interest debts, like credit card debt
• Remodeling your home to increase its property value
• General home improvement projects and repairs to keep or increase home market value

Are Home Equity Loans Risky?

The potential drawbacks of home equity loans and HELOCs vary depending on their terms. You become responsible for the mortgage lien when you borrow money against your house. If you are late or can't make your monthly payments, your home may be at risk of foreclosure.

Some types of loans and HELOCs may require you to borrow money at a higher interest rate. They may also have upfront origination fees, closing costs, and appraisal fees. Also, because home equity loans give you relatively easy access to cash, you may borrow money more than necessary.

Remember, there are other ways to borrow money from a lending institution. For example, explore second mortgage installment loans. Although these plans also place an extra mortgage on your real estate, second mortgage money usually gets loaned in a lump sum rather than a series of advances made available by writing checks on an account. Also, second mortgages typically have fixed interest rates and fixed monthly payment amounts.

Also, consider borrowing from credit lines that do not use your home as collateral. These are available with your credit cards or unsecured credit lines that let you write checks as you need the money. Also, ask about loans for specific items, such as cars or tuition. Finally, you can also do a cash-out refinance by refinancing your mortgage.

How Do I Apply for a Home Equity Loan?

Homeowners have different options when starting the application process. But before you talk with your bank, credit union, or NMLS-licensed loan officer, consider researching to help you:

• Save on costs/fees and interest rates
• Decide what to consider when comparing your options across different lenders and loans
• What factors lenders consider when deciding to loan you money

To qualify a homeowner for a HELOC or home equity loan, a lender will want to see a loan-to-value ratio (LTV) of under 85%. That means they'll want you to have 15% or more home equity left. In other words, a bank wouldn't want to lend out money if it means more than 85% of a property will be burdened by mortgage loans. Banks will also look at other factors to determine eligibility, including your:

• Existing mortgage balances
• Debt-to-income ratio (DTI)
• Credit score
• Credit history and timely mortgage payments

Consider getting quotes from different lending institutions to save on fees and interest rates. Compare interest rates and ask whether they're fixed or variable. Also, get your finances in order and ensure your income and credit score are high enough to get you the best rates.

Consult an Attorney

Maybe you're unsure if a home equity loan is right for you. Or you're considering one, but you're confused about the paperwork. A real estate lawyer can advise you about your loan options and guide you through the documents.