If you need money for an important project, you might be able to finance it by accessing the equity you have built up by paying your mortgage. A home equity loan and a home equity line of credit (HELOC) are two options. Before you decide to use either, make sure you understand the key differences and when it makes sense to utilize them.
What Equity Is and When to Use It
Your home’s equity is the current value of your house minus the balance owed on the mortgage. The amount you can borrow through a home equity loan or HELOC will depend on the lender and the amount of equity you have.
Before you decide to access your home equity, make sure you want to use the money for a legitimate purpose. Repairs or renovations that will increase your home’s value can be a wise investment, but you shouldn’t use your home as collateral to finance a vacation or to pay off a credit card bill from a shopping spree.
You shouldn’t borrow the total amount that a lender will allow just because you can. Using your home as collateral is risky. If you borrow more than you can pay back, you can lose your home in foreclosure.
Home Equity Loan vs. HELOC
With a home equity loan, you will receive a lump sum up to the amount the lender will allow. You will have to pay the money back with monthly payments. The interest rate on a home equity loan is typically fixed, so your payments will remain stable, which can help with budgeting. The downside of a home equity loan is that if you borrow a large portion of your home’s equity all at once and then the housing market suffers and your home loses value, you may wind up with little or no equity left.
A HELOC is more like a credit card. You will have a line of credit up to the amount determined by the lender, and you can use that credit to make several purchases in various amounts at different times. A HELOC often has an adjustable interest rate, and you only pay interest on the amount of credit you use. Your monthly payments may vary significantly depending on the interest rate and the amount of money you spend. You might be able to apply a fixed rate to part of the balance and to make payments that are only used to cover interest.
Should You Borrow Against Your Home’s Equity?
A home equity loan or a HELOC can help you use the equity you have accumulated to finance long-term goals, but they should be used responsibly. Before you tap into your home’s equity, make sure you are doing it for the right reasons. Only borrow what you need, and be sure that you understand the terms and will be able to afford the monthly payments.
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