difference between heloc and home equity loan
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HELOC Vs. Home Equity Loan: How Do They Work?
Understand the differences between home equity lines of credit (HELOCs) and home equity loans before you borrow against your equity.
Home equity line of credit (HELOC) vs. home equity loan: How do they work?
Written by Ellen Chang
Edited By Aylea Wilkins
Oct. 27, 2021 / 5 min read
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Home equity lines of credit (HELOCs) and home equity loans are loans that use your home as collateral, and both can be great for borrowing money if you’ve paid down a significant portion of your mortgage. A HELOC is a line of credit that allows you to borrow money as needed with a variable interest rate, while a home equity loan is a lump sum that is disbursed upfront and paid back in fixed installments.
Most home equity loans and HELOCs allow you to borrow up to 85 percent of the value of your home, minus your outstanding mortgage balance. These financial options tend to have low interest rates and fair terms because they use your home as collateral. Before you settle on a home equity loan or line of credit, shop around to find an option with the lowest fees — or no fees if possible.
What are the differences between a HELOC and home equity loan?
If you have equity in your home and want to borrow money, you may choose a HELOC or home equity loan. Below are some of the major differences between these options.Home equity loan HELOC
Interest rates Fixed Variable
Monthly payments Same every month Changes over time
Disbursement of funds Upfront lump sum As needed
Repayment terms Starts as soon as the loan is disbursed Interest-only payments during draw period; repay principal and interest afterward
What is a home equity line of credit?
A home equity line of credit (HELOC) is a line of credit similar to a credit card. You can borrow up to a specific amount of your home equity and repay the funds slowly over time.
HELOCs let you access money when you need it and repay it with variable interest. Because of this, you aren’t locked into a specific monthly payment. This is good news for homeowners who don’t know exactly how much they need to borrow and want to pay interest on only the money they access.
Only borrow as much money as you need.
Many HELOCs come without any fees.
Flexible repayment options.
Possible tax deduction.
Variable interest rates change based on market fluctuation.
Having a long-term credit line risks that you’ll overspend and have a larger debt to repay.
Could lose your home if you default on the HELOC.
If you want the flexibility to borrow as much or as little money as you need over time, a HELOC makes sense. You may want to go this route if you’re unsure of exactly how much it will cost to fund your project or venture.
What is a home equity loan?
A home equity loan is a secured loan that lets you borrow against your home equity with a fixed interest rate and repayment term. Your interest rate depends on your credit score, payment history, loan amount and income. If your credit improves after you’ve obtained a home equity loan, you might be able to refinance to a lower interest rate.
How you use the money from a home equity loan is up to you. Some use it to pay for major repairs or renovations, like adding a new room, gutting and remodeling a kitchen or updating a bathroom. You can also take out a home equity loan with a low, fixed rate to pay off high-interest credit card debt.
Fixed interest rate means the same predictable monthly payment..
Borrow a lump sum you can use for anything.
Some home equity loans don’t have any fees.
Loan interest may be tax deductible.
The best home equity loan rates and terms go to consumers with good or excellent credit, or a FICO score 670 and up.
You need a lot of home equity to qualify — usually 15 percent to 20 percent or more.
If property values decline, you might be upside down on your mortgage, meaning you owe more than your home is worth.
You could lose your home if you default on the loan.
If you have a specific project in mind and you know exactly how much it will cost, a home equity loan can be a smart choice as it can provide you with a lump sum of cash. Just make sure you don’t plan to borrow more money in the near future.
How do I choose between a home equity loan and HELOC?
A home equity loan could be better if:
You know the cost of your project and need to borrow a lump sum of money.
You prefer a fixed interest rate that will never change.
A fixed monthly payment works best for your budget.
You want to consolidate high-interest credit card debt at a lower interest rate.
A HELOC could be better if:
You want to borrow as little or as much as you want, when you want.
You have upcoming expenses such as college tuition and don’t want to borrow until you’re ready.
You don’t mind if your payment fluctuates.
How is the coronavirus impacting home equity loans and HELOCs?
You can get a home equity loan or line of credit while interest rates are near all-time lows right now — even as the economy is still recovering from the COVID-19 pandemic
Home Equity Loan vs. Line of Credit
If you're thinking about using the equity in your home to meet your financial needs you have options. Compare the differences between a home equity loan vs. a home equity line of credit and see what might make sense for you.
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Home equity loan vs. line of credit? Here’s what you need to know
Home equity loan vs. line of credit? Here’s what you need to know Share
Both allow you to borrow against the appraised value of your home, providing you with cash when you need it. Here's what the terms mean and the differences between a home equity line and loan that can help you figure out whether they're the right fit for you.
If you’ve built up equity in your home—if it’s worth more than the balance on your mortgage—you may be able to use part of that value to meet financial needs such as cash for home improvement projects, education expenses or to pay for unexpected costs.
Home equity lines of credit (HELOCs) and home equity loans (HELOANs) are two ways to achieve similar ends. But they are different, and understanding how each one works can help you decide whether one or the other might work for you.
What is a home equity line of credit?
Unlike a conventional loan, a home equity line of credit is something you establish ahead of time and use when and if you need it. In that way, it’s a little 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, which is typically 10 years. During that time, you can tap into your line of credit to withdraw money (up to your credit limit) when you need it. You use the funds only when you need to, and you can continue to use the funds as you repay them.
You only pay interest on the money you use.
Most HELOCs charge variable interest rates. Those rates are tied to a benchmark interest rate and can adjust up or down.
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.
Once the borrowing period ends, you’ll repay the remaining balance on your HELOC, with interest, just like a regular loan. The repayment period is usually 10 or 20 years.
You may be able to convert some or all of the balance you owe on a variable-rate HELOC to a fixed-rate loan.
Learn more about how a home equity line of credit works.
What is a home equity loan?
If a HELOC resembles a credit card, a home equity loan is more like the original home mortgage. You borrow a specific amount, and then you make regular payments during a fixed repayment period.
With a home equity loan, you apply for the amount you need.
Most charge a fixed interest rate that doesn’t change during the life of the loan.
Each payment, the same every month (if it is a fixed-rate HELOAN), includes interest charges and a portion of the loan principal.
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. You might use the money to:
Finance a 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. Consult your tax advisor.
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.
Cover emergency expenses. If you’ve used up the cash in your emergency fund, you could draw on a HELOC to pay for house repairs, medical bills or other unexpected costs.
Help pay for education tuition and fees. 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 you’re short of cash, 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 loan closing, and 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. And with both, it’s 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.
Source : www.bankofamerica.com
Home Equity Loan vs. HELOC: What’s the Difference?
Before using your home as loan collateral, consider both your financing needs and your appetite for uncertainty.
HOME OWNERSHIP HOME EQUITY
TAPPING YOUR HOME EQUITY
Home Equity Definition
Calculating Your Home Equity
Smart Ways to Tap Home Equity
Home Equity Loan vs. HELOC
HOME EQUITY LOAN
Home Equity Loan Definition
Home Equity Loan Basics
Tax Loophole for Home Equity Loan Interest
Refinancing Your Home Equity Loan
HOME EQUITY LINE OF CREDIT
Should You Choose a HELOC?
The HELOC Fixed-Rate Option
Reasons Not to Use a HELOC
When HELOCs Can Hurt You
Protect vs. HELOC Fraud
Is HELOC Interest Tax Deductible?
Options for Refinancing Your HELOC
OTHER WAYS TO TAP HOME EQUITY
Mortgages vs. Home Equity Loans
Home Equity Loan vs. HELOC: What’s the Difference?
Home Equity Loan vs. HELOC: What’s the Difference? Find out before you use your home as collateral to get cash
By AMY FONTINELLE Updated March 25, 2022
Reviewed by LEA D. URADU
Fact checked by SKYLAR CLARINE
Home Equity Loan vs. HELOC: An Overview
Home equity loans and home equity lines of credit (HELOCs) are loans that are secured by a borrower’s home. A borrower can take out an equity loan or credit line if they have equity in their home. Equity is the difference between what is owed on the mortgage loan and the home’s current market value. In other words, if a borrower has paid down their mortgage loan to the point that the value of the home exceeds the outstanding loan balance, the borrower can borrow a percentage of that difference or equity, generally up to 85% of a borrower’s equity.
Because both home equity loans and HELOCs use your home as collateral, they usually have much better interest terms than personal loans, credit cards, and other unsecured debt. This makes both options extremely attractive. However, consumers should be cautious of utilizing either. Racking up credit card debt can cost you thousands in interest if you can’t pay it off, but becoming unable to pay off your HELOC or home equity loan can result in losing your home.
Home equity loans and home equity lines of credit (HELOCs) are different types of loans based on a borrower’s equity in their home.
A home equity loan comes with fixed payments and a fixed interest rate for the term of the loan.
HELOCs are revolving credit lines that come with variable interest rates and, as a result, variable minimum payment amounts.
The draw periods of HELOCs allow borrowers to withdraw funds from their credit lines as long as they make interest payments.
Home equity loans give the borrower a lump sum up front, and in return, they must make fixed payments over the life of the loan. Home equity loans also have fixed interest rates. Conversely, HELOCs allow a borrower to tap into their equity as needed up to a certain preset credit limit. HELOCs have a variable interest rate, and the payments are not usually fixed.
Both home equity loans and HELOCs allow consumers to gain access to funds that they can use for various purposes, including consolidating debt and making home improvements. However, there are distinct differences between home equity loans and HELOCs.
Investopedia / Sabrina Jiang
Home Equity Loan
A home equity loan is a fixed-term loan granted by a lender to a borrower based on the equity in their home. Home equity loans are often referred to as second mortgages. Borrowers apply for a set amount that they need, and if approved, receive that amount in a lump sum up front. The home equity loan has a fixed interest rate and a schedule of fixed payments for the term of the loan. A home equity loan is also called a home equity installment loan or an equity loan.
To calculate your home equity, estimate the current value of your property by looking at a recent appraisal, comparing your home to recent similar home sales in your neighborhood, or using the estimated value tool on a website like Zillow, Redfin, or Trulia. Be aware that these estimates may not be 100% accurate. When you have your estimate, combine the total balance of all mortgages, HELOCs, home equity loans, and liens on your property. Subtract the total balance of what you owe from what you think you can sell it for to get your equity.
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Loan collateral and terms
The equity in your home serves as collateral, which is why it’s called a second mortgage and works similarly to a conventional fixed-rate mortgage. However, there needs to be enough equity in the home, meaning that the first mortgage needs to be paid down by enough to qualify the borrower for a home equity loan.
The loan amount is based on several factors, including the combined loan-to-value (CLTV) ratio. Typically, the loan amount can be 80% to 90% of the property’s appraised value. Other factors that go into the lender’s credit decision include whether the borrower has a good credit history, meaning that they haven’t been past due on their payments for other credit products, including the first mortgage loan. Lenders may check a borrower’s credit score, which is a numerical representation of a borrower’s creditworthiness.
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