Home equity loan vs. line of credit?
Here’s what you need to know
A home equity loan and home equity line of credit both give you the option to borrow against the value of your home. Applying for these loans is common and usually is a smart way to pull out cash when you need it. Let’s go over what the terms mean and the differences between a home equity loan and line of credit and whether they’re the right fit for you.
If you’ve built up equity in your home (when your home is worth more than the balance on your mortgage), it’s reasonable for you to use a part of that value for home improvement projects, education expenses or to pay for unexpected costs. Two popular options available to you are home equity lines of credit (HELOC) and home equity loans (HELOANs). But they are different enough that understanding how each loan works can help you decide whether one or the other might work for you.
- Whether you choose a home equity loan or line of credit, you’re using your equity to pay for things like home renovation projects, unexpected expenses, and more.
- A Home Equity Line of Credit is similar to a revolving balance credit card where you use funds as you need it and pay interest only on the amount you access. As you pay the line of credit down, you’re able to access the funds again if necessary.
- A Home equity loan functions much like a mortgage because you borrow a specific amount, and then you make regular monthly installments during a fixed repayment period.
- If you’re feeling anxious about which loan option fits your situation best, breath. Great Midwest Bank can help you experience a state of Bankquility™ with flexible loans options that’ll put you mind at ease. Talk with one of our experienced loan officers today.
What is a home equity line of credit?
Unlike a conventional home mortgage loan, a home equity line of credit is something you establish ahead of time and use only when you need it. Think of it like a credit card, except with a HELOC, your home is used as collateral.
A HELOC has a credit limit and a specified borrowing period, typically 10 years. During that time, you can tap into your line of credit to withdraw money (up to your credit limit) as you need it. Use the funds only when you need to and continue to use the funds as you repay on the line of credit. Better yet, you only pay interest on the money you use, which is one of the nicest features of a HELOC. That said, a HELOC, like a credit card, should “revolve” on a regular basis with principal payments. Your credit score can be impacted negatively should you borrow an amount close to the HELOC limit, again similar to a credit card.
Most HELOCs are set up with variable interest rates. That means rates are tied to a benchmark interest rate and can adjust up or down. It’s very important you understand the terms before you borrow. During the borrowing period, you’ll need to make at least minimum monthly payments on the amount you owe. Some HELOCs allow interest-only payments during the borrowing period. Other HELOCs require minimum payments of principal and interest. Additionally, be sure to ask about the annual maintenance fee and, if applicable, the cost to terminate the HELOC before the end of the term.
Once the borrowing period ends, you’ll have options to either renew the HELOC or repay the remaining balance on your HELOC with regular monthly installments over a fixed term that fits your budget. Many homeowners convert some or all of the balance you owe on a variable-rate HELOC to a fixed-rate loan.
What is a home equity loan?
If a HELOC works similarly to a credit card, then a home equity loan is more like your home mortgage. You borrow a specific amount, and then you make regular monthly payments during a fixed repayment period. In both cases, it’s normal to have a “second” mortgage HELOC or Home Equity Loan behind a traditional first mortgage.
- With a home equity loan, you apply for a specific amount you need to cover a fixed expense.
- Charge a fixed interest rate (shorter payback) or an adjustable rate (longer payback)
- Each payment amortizes the loan with some being applied to principal and the rest to interest.
What are the differences between a HELOC and HELOAN?
|Home Equity Loan||Home Equity Line of Credit|
|An adjustable interest rate||√ (longer payback)||√|
|A fixed interest||√ (shorter payback)|
|Draw money as you need it||√|
|You only pay interest on the money you use||√|
How can you use home equity?
Your home may be your most valuable asset and borrowing against your equity in it could free up cash for any of several purposes. Many homeowners use their equity to pay for the following:
Major home improvement project
Under the recent tax law, interest on a HELOC or HELOAN used to “buy, build or substantially improve” a home may be tax deductible. Please consult a tax advisor.
Consolidate your debt
Use your equity to consolidate what you owe on credit cards or other higher-rate debts into a single loan. Since your home is used as collateral for HELOCs and HELOANs, these loans may have lower interest rates than other kinds of loans. It’s a good practice to pay this type of consolidation back over, say, no more than five years.
Cover emergency expenses
If you’ve used up the cash in your emergency fund or savings, you could draw on a HELOC to pay for house repairs, medical bills or to cover temporary needs if you don’t have access to liquid funds tied up investments.
Help pay for education tuition and fees
Whether you’re going back to school yourself or your kids are ready for college, a home equity line or home equity loan interest rates may be lower than rates on college loans.
Is a home equity line or loan right for you?
A HELOC gives you the flexibility of a financial backstop that’s there when you need it. If your roof needs repair or a tuition bill comes due when your funds are tied up elsewhere, drawing on a home equity line of credit can be a convenient solution. You decide when to use the funds, and you pay interest only on the money you actually use. On the flip side, with a HELOAN you get a lump sum of cash at the loan closing. Plus you’ll know how much your monthly payments will be and how long it will take to pay off the loan.
With either, the amount you can borrow will depend on the value of your home and the amount of equity you have available. It is important to remember that you’re using your home as collateral—and it could be at risk if its value drops or there’s an interruption in your income. But if you qualify and your financial situation is stable, a home equity line or a home equity loan could be a helpful, cost-effective tool for making the most of your home’s value.
Find the best home equity product for your personal financing with Great Midwest Bank.
As a general rule of thumb when considering a fixed home equity loan versus a line of credit, you will find that HELOCs are best for upcoming expenses you know about but need flexibility. On the other hand, home equity loans are perfect when you have a definite amount you want to borrow.
Great Midwest Bank is a family-run community bank, serving local communities from the greater Milwaukee area all the way to the suburbs of Madison. We service home equity loans locally and use our own funds to finance your home equity loans, whether that loan is a conventional fixed rate loan or an adjustable-rate mortgage. This gives us much more flexibility in our lending and allows us to offer you more hassle-free HELOC mortgage loan rates and terms for your loan.
If you have more questions about home equity loans, talk with one of our experienced loan officers today and let us help put your mind at ease. We’ll take the time to go over all the different loan options so you feel good about taking the next step.