Home Equity Loans Versus Lines of Credit: Which Is Right for You?

Home Equity Loans Versus Lines of Credit: Which Is Right for You?
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Point Editorial

Home equity loans and home equity lines of credit both require you to use your home as collateral. Though the names may sound similar, they’re not the same. 

A home equity loan is a lump sum that borrowers pay back in set installments. In comparison, a home equity line of credit, also called a HELOC, allows you to borrow money as you need it. 

What is a home equity line of credit? 

A home equity line of credit is a revolving loan, similar to using a credit card. This means that you can continuously borrow up to a certain amount of money and make payments over time. Banks do not readily offer HELOCs, so it is more difficult to get approval. 

To determine the amount of the loan, subtract the home's market value from the mortgage amount. In this case, the property in question acts as collateral.

Borrowers have a maximum of between 10 and 20 years to repay HELOC loans. 

Advantages 

One: You only borrow as much as you need, which means you only pay interest on that amount.

Two: The majority of HELOCs come without any additional fees.

Three: You may be eligible for interest deductions if the loan is going towards significant changes to your home. 

Disadvantages 

One: Interest rates vary, and HELOCs are susceptible to changes in the market.

Two: Having access to a long-term line of credit increases the risk for overspending and can result in more debt. 

Three: If you cannot pay back the loan, you may lose your house. 

What is a home equity loan? 

A home equity loan is a secured loan, meaning that you must pay an up-front deposit upon approval. These loans tend to give borrowers access to larger amounts of money and come with lower interest rates. So, having a good or excellent credit score will help you here. 

You can use a home equity loan for whatever purpose you like. 

Advantages

One: Monthly payments are a fixed amount, making budgeting easier.

Two: Just like a HELOC, you may be eligible for tax deductions if the money goes toward fixing up your home in a significant way 

Disadvantages

One: Usually, you can only qualify for this type of loan if you have very good or excellent credit. 

Two: Again, you may lose your house if you cannot pay back the loan.

How can you use home equity?

One: Finance home improvement projects. According to the United States' current tax guidelines, home equity used to build, buy, or substantially improve a home may be eligible for some tax reductions.

Two: Cover emergency expenses. To reiterate, just as you can draw money from HELOC loans to pay for house renovations, you can draw money to pay medical bills, too. 

Three: Help pay for education tuition and fees. Interest rates on a home equity loan may be lower than rates on traditional student loans.

 Four: Consolidate your other loans. 

Home equity loan versus line of credit: key differences

Home equity loan HELOC
Interest rates Fixed Adjustable
Monthly payments Same each month Varies over time
Repayment terms Repayment period starts as soon as loan is approved -Period begins only when you withdraw the first payment
- You only repay the amount you use
Lump sum Yes No
Draw money as you need it No Yes
Only paying interest on the money you use No Yes

How do you get a home equity loan or a home equity line of credit?

Described below are five things you need in order to qualify for either type of loan. 

One: Have equity in your home. Borrowers must have no more than 20 percent equity in their home. Therefore, your mortgage and any previously existing equity loans should total no more than 80 percent of your home’s overall value. 

Two: Have good credit. According to FICO, the leading credit scoring model, a good score is 670. A score of this value or higher will give you more negotiating power, as well as access to lower interest rates and better loan repayment terms. 

Three: You have a reasonable amount of additional debts. Any debt you have should total less than 43 percent of your gross income. 

Four: Earn a sufficient income. A common requirement for many loans is proving you have enough funds to repay the loan. 

 Five: Have a reliable payment history. This is crucial. If you missed or made late payments in the past, lenders will not be as willing to approve your application since you haven’t demonstrated reliable behavior. 

How do you calculate home equity? 

Subtracting the amount of money you owe on your mortgage from your property's value will tell you how much home equity you possess. 

Remember, you can typically borrow up to 80 percent of that value. 

How do you know which type of loan is right for you?

Before you apply for or commit to any loan, it is always a good idea to do some research, especially regarding installment amounts, potential tax advantages, and any extra fees. 

You may want to consider opting for a home equity loan if:

One: You know the approximate overall cost of your repairs, so you can take out a lump sum. 

Two: You want to fund more extensive projects, especially if you're seeking to raise the value of your home. 

Three: You want stability through fixed interest rates and equal monthly payments.

Four: You're interested in debt consolidation. Home equity interest rates are lower than other loans like personal loans. You can use that money to pay off other debts. 

With that said, in addition to debt consolidation, other supplementary measures exist to ensure your financial stability. An excellent tool to help you with this is Point Card

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Whether you want to fix up your house or go back to school, with Point Card, navigating your financial journey and achieving your goals has never been easier, no matter how big or small they may be. Becoming a Point cardmember is a simple but smart way to manage your day-to-day spending while you research substantial borrowing opportunities like HELOC loans.

You may want to consider a HELOC loan if:

One: You want the flexibility to borrow as much or as little as you want when you want.

Two: You have other expenses or debts you need to pay off and want to wait for a better time.

Three: You don't mind payment fluctuations. 

Four: You don't need to apply for a new loan whenever you take out money. This is a significant benefit, as applying for a loan that you don't qualify for can negatively affect your credit score. Multiple applications, especially within a short period, can decrease your credit score and make it difficult to obtain loans in the future. 

Both loans can be beneficial, but your decision should ultimately come down to your preferences and particular  situation.

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