Home Equity Loans
Home equity loans are a perfect way for you to be able to manage your finances better, to pay the tuition fees for your child, to pay off all of your outstanding debts (using HEL as consolidating loan), paying for expensive medical emergencies, buying the car you have dreamt of, making the home improvements you so much need in order for your home’s market value to rise consistently, paying for exceptional occasions like a wedding and many more. Indeed, a home equity loan has many uses, but first you need to contract one on good terms. In order to be able to take on a home equity loan on enough good terms, you will need:
- Good to excellent credit history; if you have a bad credit history, that means you have too many outstanding debts, so you represent a great risk for the lender.
- Enough equity in your home. For example, if your mortgage is $200,000, from which you have paid by now $40,000, this is the sum you have as equity. You can borrow against this amount of $40,000, but be careful as a home equity loan is similar to a second mortgage and you find yourself soon enough where you started. Basically, if the lender will approve for 80% of your equity that means you will get an amount of $32,000. This actually means that you have borrowed back the money you have paid so far on your mortgage leaving you with $8,000 paid off towards mortgage.
- Determination and responsibility. You must make up yourself a very good plan, where you actually can see where the money will go. It is important to act responsibly and stay away from huge debts just because you take out the money to spend it on a vacation for example.
US law mostly states that these home equity loans can be non-recourse loans as well as recourse loans. You need to know the difference and check what type of loan you are taking on from the very beginning. For example, a recourse loan makes one responsible (personally liable) even after the home is taken subject to repossession, while a non-recourse loan doesn’t.
Home equity loans are of two major types:
- Open-end HEL
- Closed end HEL
Open end home equity loans are known as HELOC (Home equity Lines of Credit). As its name suggests, it means that you actually do not receive a cash lump sum, but a line of credit instead which will work as a pool of reserves you can take out each time only as much as you need. The term for these open -end equity loans are usually between 20 and 30 years, and it also is similar to an interest only type of loan. This means that for the term of the loan you are paying only the interest (the minimum required limit), while at maturation you are required to pay back the initial loan (principal) amount in full. If, based on the above example you receive the $32,000 loan as HELOC, for a term of 25 years, that means for 25 years you will be paying the interest rate set by the lender (it is usually higher than the prime rate), and when the term is up you are required to make a full down-payment of the principal.
Close-end home equity loans (HEL), have much shorter terms of borrowing (5-10-15 yrs. at the top), and include you receiving a lump sum and not a line of credit. Moreover, the interest rate is most of the time not adjustable, but fixed. This means that you will always know how much is the minimum required re-payment each month and you will be able to better organize your financial status. So, home equity lines of credit tend towards the more flexible types of loans, while the close-ended home equity loans towards the more rigid rules.
Any option you should choose, make sure that you understand each and every provision stated by your lender, because you will usually borrow larger amounts of money and the repayment terms are also long. You have to think on the long term, and whether these loans are truly affordable to you given not only your current financial status (income) but also thinking ahead.
