Monday, 15 April 2019

There are many benefits to using the equity in your home to access cash.

However, it's important to understand how home equity loans and lines of credit work before you decide if home equity borrowing is the best option for you.

Here are some answers to frequently asked questions about home equity borrowing.

What is home equity borrowing?

Home equity borrowing is using the equity in your home — which, in general terms, is the difference between the balance of your mortgage and the appraised value of your home — as collateral for a loan or line of credit.

What are the benefits of home equity borrowing?

For starters, you can typically get a lower rate with a home equity loan or line of credit than you can with an unsecured loan or credit card. That's because with home equity loans and lines of credit, you use the equity in your home as collateral to secure the loan. And in most — if not all — cases, rates are lower on secured loans versus unsecured.

Home equity loans also offer a fixed rate and fixed monthly payments for the life of the loan, which makes budgeting and managing the loan easy.

With home equity lines of credit, you can enjoy financial flexibility having instant access to your available credit line when you need it.

Both loans and lines can potentially offer some tax benefits by allowing borrowers to deduct the interest they pay on the loan or line. However, due to recent changes to the tax laws, there now are significantly more restrictions on what interest can be deducted. Therefore, you should always consult a tax advisor about the deductibility of interest.

What's the difference between a home equity loan and line of credit?

With a home equity loan, you get a lump sum at one time. The interest rate is fixed, and you pay the same monthly payment for the entire term of your loan. Home equity loans are often used for home improvements, one-time expenses and debt consolidation. However, there are no restrictions on how you use the money.

With a home equity line of credit, you are given a credit line based on how much equity you have in your home. You can then access your credit line whenever you want, up to your credit limit. When you make your payment each month, that credit becomes available for use again, much like a credit card.

The interest rate on a home equity line of credit is variable, which means it can change to reflect current economic conditions. Because your outstanding line balance changes and the interest rate are variable, your payment could be different each month.

Home equity lines of credit are commonly used for home improvements, vacations, college tuition or just to have access to cash whenever you need it.

How much can I borrow?

First, it depends on how much equity you have in your home.

For example, let's say your home is valued at $200,000 and you owe $100,000, which means you have $100,000 in equity.

Typically banks will only allow you to borrow up to 80 percent of the value of your home. So, 80 percent of $200,000 is $160,000. This is the maximum amount of loans you can have, both mortgage and equity line or loan.

Remember, the most you can borrow is $160,000. You owe $100,000 on your mortgage, which leaves $60,000 in equity, which you could potentially borrow.

Of course this is just a ballpark figure. How much you can actually borrow depends on your credit score, employment history and a range of other factors. When you talk to your banker or lender, they can give you a more accurate estimate of how much you can borrow.

How do I qualify for a home equity loan or line of credit?

Qualifying for a home equity loan or line of credit is very much like qualifying for a mortgage. A good credit score goes a long way toward helping you get approved, as does steady employment. Also, the less unsecured debt you have — such as credit card debt and personal loans — the better.

Will I have to pay closing costs?

Yes. Essentially any mortgage-related borrowing will have closing costs. Your bank or lender will be able to give you an estimate of how much your costs will be. 

Can I use a home equity loan or line for debt consolidation?

Yes. Rates on home equity loans and lines are typically much lower than credit card interest rates. Which is why many people use home equity loans and lines to pay off higher rate debt and consolidate their debt in one place with one monthly payment.

The relative benefits you receive from debt consolidation will vary depending on your individual circumstances. If your new debt has a longer term than the bills you are consolidating, you may not realize savings over the entire term of the repayment.

Can I sell my house when I have a home equity loan or line of credit?

Yes, you can. You must be able to pay off your home equity loan or line of credit — in addition to the balance on your first mortgage — with proceeds from the sale of your home.

What if I don't make my payments?

When you get a home equity loan or line of credit, you are using your home as collateral for the loan or line. If you fail to make your monthly payments, you could lose your home.

In many cases, home equity borrowing can be one of the smartest ways to borrow the money you need. The key is to educate yourself and understand exactly how getting a loan or a line will affect your budget so you can make the best possible decision.

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