Low Mortgage Rates Make Home Equity Loans A Good Choice
As mortgage interest rates continue to hover at or near historic lows, you may be considering a home equity loan to finance other expenses. There are a lot of good reasons to consider a home equity loan, especially in our current lending environment, but a few words of caution as well.
First let’s define a few terms:
- Home equity – this is the amount of equity your currently have in your home. For example, if your home is worth $500,000, and you only have $300,000 left to pay on your mortgage, your equity in the home is $200,000.
- Home equity loan — is a second mortgage that is calculated based on a percentage of your home’s value (usually 80% – 85% of the value can be borrowed) minus the amount you still owe on your current mortgage. The loan is paid out to you in a lump sum.
- Second mortgage – this term is used because you are taking out an additional mortgage on your home. It is also used to describe the holder of your home equity loan. If you should lose your home to foreclosure, the mortgage holder gets paid first; the home equity loan holder is paid second.
How might you use a home equity loan?
- Home improvements are one of the most common uses for a home equity loan. You can take advantage of the equity you’ve already built in your home to continue adding value to your investment through improvements and upgrades.
- If there’s a wedding in your future, you might consider a home equity loan to help cover the costs. Home equity loans offer a better interest rate than a “wedding loan”, which is a type of personal loan. However, it’s easy to get carried away and spend more on a wedding than you might, just because you have the ability to borrow more with a home equity loan than with a personal loan.
- College costs continue to rise. If you’ve built a good amount of equity in your home, this might be a good use for it. Home equity loans are offered at a better interest rate than many private student loans.
What can I do to build equity in my home?
- Start with your down payment. The larger down payment you can make will immediately increase the equity you have in your home. If you can start with a 20% down payment, you’ve already got a good start since many lenders require you to have at least 20% equity before they’ll consider a home equity loan.
- Make improvements to your home to increase your property’s value. Do your research first, some home improvements add more value than others. Solid basic maintenance and keeping core functions (furnace, air conditioning, roof, windows, etc.) of your home in excellent condition go a long way toward helping your home maintain, or grow, its value.
- Never miss a mortgage payment. Those monthly payments reduce your mortgage and grow your home equity. If you have a bit extra at the end of the month, consider adding those funds to your mortgage payment to pay down the principal balance. It’s a great way to build equity in your home.
A few last pros and cons for considering a home equity loan:
PRO: You can use the money any way you want. It’s your sum of cash to use in the way you choose.
CON: You’re using your home as collateral. If you use the home equity loan for risky purposes and can’t keep up with the payments, you risk losing your home.
PRO: Interest rates on home equity loans are less than credit cards or personal loans so your borrowing costs are lower.
CON: Because home equity loans are a mortgage, they are subject to closing costs, which can be 3% – 6% of the loan amount. You need to factor those costs into your overall repayment plan and budget.
PRO: Home equity loans, as a type of mortgage, have a fixed interest rate. This allows you to budget and plan for the life of the loan.
CON: You now have two mortgage payments to make each month. Mortgages are often the largest line item in your personal budget; having two of them can have a significant impact on your available funds each month for discretionary spending.
Working with a trusted, hometown banker at Homewood Federal Savings Bank will give you the confidence you need to borrow responsibly. We make individual loan decisions through our manual underwriting process. We never sell our loans; we are committed to your financial success and will help you manage your loan from origination through the final payment.