Home Equity Loan vs. Home Equity Line of Credit (HELOC)
From home renovations to high interest debts, you may find yourself at a juncture where you’re in need of cash. If you can relate and are a homeowner, the following options may be worth exploring as you weigh your financial decisions:
- Home equity loan
- Home equity line of credit (HELOC)
In an effort to help our members better understand both options, our team is reviewing the differences between a home equity loan and a home equity line of credit—both of which are potential options for those wanting to borrow on their home equity.
To get started, let’s review the following brief overview that explains what is a home equity loan—including how to use it, the benefits, and how to a secure a home equity loan.
What is a Home Equity Loan?
A home equity loan, also commonly referred to as a second mortgage, is a loan that allows you to borrow from the equity you have invested in your home. As a refresher, “Your equity is the difference between how much your home is worth and how much you still owe on your mortgage” (Bankrate).
A home equity loan gives you a single lump sum of money you can use however you choose. For example, a home equity loan is perfect to pay off large bills like student loans, consolidate high-interest debts, or finance a big event like a wedding or dream vacation. Added bonus: You get a low fixed-rate and an affordable monthly payment that will never increase.
How Can I Use a Home Equity Loan?
Based on your needs and priorities, where you apply the funds from your home equity loan can vary. Below are some examples of how the money from home equity loan may be allocated:
- Home Renovations
- Student Loans
- Pay of Credit Card Debt
It’s important to note that while there are advantages of using a home equity loan (most notably the low interest rates), homeowners should be cautious, ask smart questions and weigh all options before securing a home equity loan.
For example, according to Bankrate, while a “home equity loan can be a good way to fund a college education because the interest rate might be lower than the rate on a student loan”—but be careful not to default on the home equity loan, because “defaulting on a student loan will only hurt your credit, but if you default on a home equity loan, you could lose your house.”
What are the Benefits of a Home Equity Loan?
For borrowers, the benefits of a home equity loan can be broken into the following categories:
- Low Interest Rates: Perhaps one of the best benefits of a home equity loan are the interest rates, which are most often at a fixed rate, meaning that the interest rate will not fluctuate. In addition, “home equity loans usually have lower interest rates than credit cards and other types of unsecured debt, because your home acts as collateral for the loan, meaning lenders take on less risk and are more willing to offer lower interest rates. (S. News)
- Large Access to Cash: With a home equity loan, you are able to tap into the money that you have already invested in your home—an amount that can range depending on the amount and frequency of your monthly payments. With that said,
it’s important to remember that “the actual amount of the loan also depends on your income, credit history, and the market value of your home” (Federal Trade Commission).
Quick Review: What is a Home Equity Loan?
Let’s quickly review what exactly is a home equity loan:
A home equity loan gives you a single lump sum of money you can use however you choose. For example, a home equity loan is the perfect to pay off large bills like student loans, consolidate high-interest debts, or finance a big event like a wedding or dream vacation.
Now with that definition under our belts, let’s take a closer look at the benefits of a home equity line of credit.
What are the Benefits of Home Equity Line of Credit?
Perhaps the top benefit of a home equity line of credit is the flexibility it provides, over both the loan balance and interest cost. Plus, it give you easy, ongoing access to cash—kind of like a credit card. Your line comes with a low variable rate that can change over the life of your line.
How Can I Use a Home Equity Line of Credit?
The benefits of a home equity line of credit are similar to those of a home equity loan. Check out the following which are just a few of the benefits that may be of interest to you during this phase of your financial life.
- Afford a Home Improvement Project: If you have your heart set on a remodeling your kitchen or dream of a new deck, a home equity line of credit can help make those dreams a reality. A home equity line of credit is especially good for a project where you can’t afford to do everything at once, and instead want to tackle one project at a time (versus a project where you know the exact amount, i.e. a kitchen remodel, in which case a home equity loan may make more sense).
- Make a Big Purchases: Since a home equity line of credit essentially functions as a credit card, this means that you are able to use these funds for a big purchase, i.e. vacation, buy a new car, etc. Alternatively, it may be worth exploring other options for large purchases, i.e. a Vacation Loan. For example, American Heritage Credit Union offers vacation loans for members who may have lower income or low credit scores, and simple need a loan of up to $1,200 for any summer to-dos.
- Consolidate Debt: Another benefit of a home equity line of credit is that it can be” used to consolidate debts to a lower interest rate, and homeowners will often use home equity to pay off other personal debts such as a car loan or
a credit card” (Bankrate). One word of caution if you go down this route—make sure you work to get the debt down after you use your home equity line of credit, so that you can continue to improve your credit score.
How is a Home Equity Line of Credit Different than a Home Equity Loan?
In short, a home equity loan provides you with a lump sum of money that you must pay off over a certain amount of time via fixed monthly payments. A home equity line of credit (HELOC) is different in that it operates more similarly to a credit card. A
HELOC allows you to get approved for a certain amount, where you can “only borrow what you need…and you can borrow multiple times after you get approved. In the early years, you can make smaller payments, but at some point, you have to
start making fully amortizing payments that eliminate the loan” (The Balance).
Where Can I Get a Home Equity Loan or Home Equity Line of Credit?
As with any big life decision, it’s important that you go with a resource that you trust. That’s why, we are committed to best serving our local community and working with our members to navigate financial decisions, like home equity options, when the time comes. Check out this page which provides more details on home equity loans and home equity lines of credit.
If you’re interested in learning more about securing a home equity loan or home equity line of credit, don’t hesitate to contact our team today!