Home > Mortgages > 4 Things You Need to Know About Home Equity Loans

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Home equity lending is making something of a comeback. After being nearly shut down with the collapse of housing prices during the Great Recession, lenders are once again opening up their wallets and allowing people to borrow against the value of their homes.

Newly originated home equity loans and lines of credit rose by nearly a third during the first nine months of 2013, compared to the same period 12 months earlier, according to industry publication Inside Mortgage Finance.

While still only a fraction of its pre-crash levels — total 2013 home equity lending is estimated at $60 billion, compared to a peak of $430 billion in 2006 — rising home values in recent years are putting more equity in borrowers’ hands, while a gradually stabilizing economy is giving lenders more confidence to lend.

So the fact that they’re making a comeback is one thing to know about home equity loans. If you’re thinking about pursuing one, here are four other things you’ll need to know.

1. You’ll Need Equity

Equity, of course, is the share of your home that you actually own, versus that which you still owe to the bank. So if your home is valued at $250,000 and you still owe $200,000 on your mortgage, you have $50,000 in equity, or 20%.

That’s more commonly described in terms of a loan-to-value ratio – that is, the remaining balance on your loan compared to the value of the property – which in this case would be 80% ($200,000 being 80% of $250,000).

Generally speaking, lenders are going to want you to have at least an 80% loan-to-value ratio remaining after the home equity loan. That means you’ll need to own more than 20% of your home before you can even qualify. So if you have a $250,000 home, you’d need at least 30% equity – a loan balance of no more than $175,000 – in order to qualify for a $25,000 home equity loan or line of credit.

2. One of Two Types

There are two main types of home equity loans. The first is the standard home equity loan, where you borrow a single lump sum. The second is a home equity line of credit, or HELOC, where the lender authorizes you to borrow smaller sums as needed, up to a certain fixed amount. The type you choose depends on why you need the money.

If you’re looking at a single, major expense – such as replacing the roof on your home – a standard home equity loan is usually the best way to go. You can get these as either a fixed- or adjustable-rate loan, to be repaid over a predetermined length of time, up to 30 years. You’ll need to pay closing costs, though they’re much less than you would see on a full mortgage.

If you need to access various amounts of money over time – such as if you’re doing a home improvement project over a few months, for example, or to support a small business you’re starting – a home equity line of credit may be more suitable to your needs.

With a HELOC, you’re given a predetermined limit you’re allowed to borrow against as you wish. You only pay interest on what you actually borrow and you don’t have to begin repaying the loan until a certain period of time, known as the draw (typically 10 years), has elapsed.  There are usually no closing costs, though you may have to pay an annual fee. The interest rates are adjustable, meaning you don’t get the predictability offered by a fixed-rate standard home equity loan, though you can often convert a HELOC to a fixed rate once the draw period ends.

3. Think Big

There’s one thing about home equity loans – they’re not particularly useful for borrowing small amounts of money. Lenders typically don’t want to be bothered with making small loans – $10,000 is about the smallest you can get. Bank of America, for example, has a minimum of $25,000 on its home equity loans, while Wells Fargo won’t go below $20,000. Discover offers home equity loans in the range of $25,000 to $100,000.

If you don’t need quite that much, you can opt for a HELOC and only borrow what you need. Remember though, that you still may be charged an annual fee for the duration of the draw period.

Even if you plan to use only a fraction of your line of credit, say $5,000 out of a $20,000 HELOC, you’ll still need to have enough equity in your home to cover the full amount. So if the smallest home equity loan or line of credit your lender will allow is $20,000, you’ll need to have at least $20,000 in home equity over and above the 20% equity you’ll need left after taking out the loan.

4. It’s Still a Mortgage

It’s easy to forget sometimes, but a home equity loan or line of credit is a type of mortgage, just like the primary home loan you used to fund the purchase of your home. And as a mortgage, it offers certain advantages and disadvantages.

One of the advantages is that the interest you pay is usually tax-deductible for those who itemize deductions, the same as regular mortgage interest. Federal tax law allows you to deduct mortgage interest on up to $100,000 in home equity debt ($50,000 apiece for married persons filing separately). There are certain limitations though, so check with a tax adviser to determine your own eligibility.

Second, because it is a mortgage secured by your home, the rates tend to be lower than you’d pay on credit cards or other unsecured loans. They do tend to be somewhat higher than what you’d currently pay for a full mortgage, however.

On the downside, because the debt is secured by your home, your property is at risk if you fail to make the payments. You can be foreclosed on and lose your home if you’re delinquent on a home equity loan, the same as on your primary mortgage. The difference is that in a foreclosure, the primary mortgage lender is paid off first, and then the home equity lender is paid off out of whatever is left.

So you want to treat a home equity loan with the same seriousness you would a regular mortgage.  That’s the most important thing of all to know.

More on Mortgages and Home Buying:

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  • http://www.credit.com/ Credit.com Credit Experts

    How would the bank know? The bank is interested in your paying back the money you borrow.

  • Julie Davenport

    It says there are 5 things to know, but only states 4. What’s the 5th?

    • http://www.credit.com/ Credit.com Credit Experts

      The first is in the introduction — the fact that HELOCs are opening up.

  • Equity Research Lab

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  • Steve

    Is it possible to get a HELOC with a financial institution other than the bank that holds the mortgage?

    • http://www.Credit.com/ Gerri Detweiler


  • X

    Can you pay off a personal loan with a HELOC?

    • http://www.Credit.com/ Gerri Detweiler


  • pipewelder

    Can you use your home equity load for the purchase of an automobile or does it have to be used to improve your home?

    • http://www.credit.com/ Credit.com Credit Experts

      Generally you can use it however you like. A home improvement loan would have to be used for home improvement. But home equity loans have been used to pay for many other things (tuition, cars, adoption and more).

  • fredy

    Question?? Can you get a home equity loan if you have equity but not full time employment?

    • http://www.Credit.com/ Gerri Detweiler

      It can be challenging, but not impossible. Have you talked with a lender? If not, that is the next step we recommend.

  • codye

    can you take a equity loan out if you owe back taxes on the house

  • Edward A

    Can I cosign a HELOC or home equity loan for my father? Please note that the home is only under his name. Any advice or suggestions will help! Thank you in advance!

    • http://www.Credit.com/ Gerri Detweiler

      The lender may be willing to permit you to cosign. You’ll need to talk with them.

      What about a reverse mortgage for your father? Perhaps that’s a better option?

  • Ang

    If I have a house that is worth 140,000 and need to buy someone out but have bad credit. Can you use the 50% equity to get a loan? Only need $70,000 to buy out. Is it possible to raise your credit score within 6 months?

    • http://www.credit.com/ Credit.com Credit Experts

      You would have to check with your lender about using the house as collateral. And yes, it is possible to raise your credit score within 6 months. First, find out what’s holding it down. THOSE are the factors you need to address first. You can get a free credit report card from Credit.com, and it includes personalized suggestions for improving credit.

    • http://www.Credit.com/ Gerri Detweiler

      I am not sure I understand your scenario. But generally lenders still require minimum credit scores and proof of income (ability to repay the loan) to get a home equity loan. So you will have to qualify if you want to try to tap your equity. Have you talked with a lender?

  • Anna Monteleone

    Hi, I have been recently widowed,I own my home,no mortgage, at this time I am drowning in debt,,would like to draw on equity ,I haven’t found a job yet ,but I have a co signer,had excellent credit but it’s starting to turn..approved any suggestions?

    • http://www.Credit.com/ Gerri Detweiler

      Anna – We’re sorry to hear of your loss. You may be feeling overwhelmed right now, but before you start taking money from your home equity will you consider talking with a bankruptcy attorney AND a credit counselor to see if you have other options? You may be able to reduce the debt without putting your home equity at risk. Another option, if you are age 62 or older, is a reverse mortgage. But please talk with a professional to make sure you make the best decision for the long run. This article may help:
      6 Places to Get Free Help With Your Credit Problem

  • Shar

    Can someone get a loan on a paid off home , that only owns 50% of the home?

    • http://www.credit.com/ Credit.com Credit Experts

      Could you re-state the question? Not sure we understand exactly what you are asking.

  • Cardinal AK

    Can you get a home equity loan if you have a lien on the house; such as a judgement?

    • http://blog.credit.com/ Kali Geldis

      Hey Cardinal —

      That may prove difficult, as your credit score will list liens and creditors may not be as at to lend to someone with one. However, each situation is different — your best bet is to get a copy of your free annual credit reports and take them into your bank of choice. A loan officer who can see your credit report can look at the big picture and tell you whether you’d stand a good chance of qualifying (and they can talk to you for free!)

      Here’s hoe to get your free annual credit reports:

  • Michael Hahn

    Three Questions:
    1 – Paid off 50 percent of the original Home Equity Loan. Can I know convert it to a standard mortgage to regain an ag exemption?

    2 – Can just my wife now purchase our house at a set price above what we owe (assuming her income and credit qualify her), without me signing the loan, but just any other deeds, etc. required. Or not sign those if we so choose.

    3 – I have a S-Corporation. Could it purchase our property with a standard mortgage, even though I own the S-Corp?

  • Seth Bevans

    I am not sure I totally understand how equity works. I am purchasing a house that is appraising for 205,000.00, but only paying a 116,500.00 for it. I would like to add another bathroom to it, but to stipulations in out loan, I cant do it with the purchasing loan. But with the difference in appraisal, and a purchase price does that mean I have 88,000 in equity to begin with. I always thought time lived there counted too? Please help I am a bit confused.

    • http://www.credit.com/ Credit.com Credit Experts

      Speak with your lender about your options. Different programs may offer you different ways to do this — and it may turn out that buying the home, closing and then taking out a home equity loan (or line of credit) to add the bathroom is the way to go

  • http://www.newteethnow.com/ Courtney Matthews

    Excellent post. I would definitely suggest speaking with your lender and ask a lot of questions!

  • Christy Greene

    I would like to have some extra cash just like all of us would! I paid $92,000 for my house and I put $18,000 down. I’ve lived here for 10 years and my monthly mortgage payments are about $680 and that’s with the home insurance and property fees included. About 5 yrs ago i tried to get a 2nd mortgage or home equity loan through same bank I make my mortgage payments to. But they denied me saying I was late too many times making my monthly payments. I’ve now been paying them on time but my credit score is bad. Should I try to go back to same bank to get a loan? Will II even be able to get a loan with bad credit but the good thing is I’ve lived in same house for 10 yrs! So that’d have to help wouldn’t it? If anyone can give me any advice I’d appreciate it!!

    • http://www.credit.com/ Credit.com Credit Experts

      A better move is to improve your credit score. Here are some tips: How to Rebuild Credit

  • Travis George

    I own the home and work full time. My credit score is bad, could I be eligible for an equity loan. I don’t have any liens just some mistakes from the past. My bank denied for a personal loan but said it would a better option would be an equity loan. If they denied for the personal loan wouldn’t they also deny me for the equity loan?

  • Aaron Bogale

    currentley i have an equity line of credit established.i need this because i awant to finance my daughter education.the college want this in lquid form can i draw all the money put it in checking account so that the college see it as liquid is there a downside to this strategy thank you

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