A home equity loan is called a second mortgage. This type of home loan allows a homeowner to secure a loan by leveraging the equity value of their home. If you default on your loan, you risk being foreclosed or losing your home. Here are some basic facts about home equity loans.
Types of Home Equity Loans
A home equity loan program is split into two: fixed-rate loans and home equity lines of credit. Fixed-rate loans provide a lump-sum payment to the borrower. The borrower repays this money over a set time. Typically, you can repay fixed-rate loans within 5-15 years at a fixed interest rate.
Home equity lines of credit is a variable-rate loan that is similar to a credit card. Borrowers are allowed to spend money up to a specific limit. The borrower can withdraw the money through special checks or credit cards.
The monthly payments will vary depending on the amount of cash you borrow and the interest rate. There is a draw period of between 5-10 years, and a repayment time when draws are not allowed. These loans have a variable interest rate.
Factors to Consider When Taking a Home Equity Loan
The first thing you need to bear in mind when you decide to go for home equity lending is that your home's value may decline over time. This means you will owe more than what your home is worth. For example, if you owe $300,000, but your home depreciates to $200,000, your mortgage will be $100,000 more than what your home is worth. It means you will be underwater on your home equity loan. In such a situation, you are less likely to secure a new loan with better conditions.
Secondly, there's a limited amount of money that you can borrow. Lenders calculate how much you can borrow using the loan-to-value ratio. This means even if your house is worth a million dollars, you will only get a percentage of this value. In most cases, you are allowed to borrow 80-85% of the equity value of your home. This number varies depending on your credit score, current income, and financial history.
Lastly, you should not tap into your home equity for extravagant expenses. Experts advise lenders to create a savings plan for these unnecessary expenses. You should not put your house at risk of foreclosure for a luxurious purchase. A rule of thumb is to borrow what you need and not to overspend.
How many times have you put off making repairs around your home because you didn't have the money to make them immediately? Have those decisions caused even more repair bills because you waited to make the repairs? I have done this several times in the past, and, oftentimes, not making those repairs have cost me far more to complete because the damage spread. The whole reason I created my blog was to help others find the financing they need to make home repairs without worrying about choosing the wrong type of financing option. Hopefully, my hard-learned lessons will help you avoid the same struggles that I have undergone.