Home Equity Loan vs. Home Equity Line Of Credit

[Oct 2, 2009.]

 

Home Equity Loan

A home equity loan is a second mortgage.  Second mortgages typically have a higher interest rate than a first mortgage because their position is riskier than that of the first lender. The interest rate will also be affected by the loan to value ratio.  The more maxed out the house's value, the more risk for the lender and the higher interest rate the lender will want in return.

Normally a home equity loan is a lump sum distribution of funds at closing.  Home equity loans usually have a fixed interest rate with amortized monthly payments.  The repayment term of a home equity loan is normally shorter than a first mortgage.  A home equity loan repayment term might be three years or fifteen years, but is not normally a full thirty years like a first lien mortgage.

Home Equity loans can typically be used for any purpose.  Some of the usual reasons for taking home equity include: starting a business, putting a child through school, debt consolidation, investing, or home improvement.

Comparison shopping for a home equity loan is a must.  Interest rates and fees can vary greatly between mortgage lenders.  Some of the cheapest home equity loans can be found here.

Home Equity Line Of Credit

A home equity line of credit (aka HELOC) is an adjustable rate second mortgage.  Most HELOCs are based on the Prime Rate index plus a margin.  The margin will be higher or lower depending on the loan to value ratio. Some home equity lines of credit will also have a low "teaser" start rate.  A "teaser" rate might be 1.99% for three months before the loan adjusts to the fully amortized interest rate of the index plus the margin.

A home equity line of credit works much like a credit card.  It has a maximum credit limit which cannot be exceeded.  It has a use and pay feature and minimum monthly payments which are usually interest only. As long as the Prime Rate remains very low, using a home equity loan might be a cheaper loan than a high interest credit card. Be familiar with the Prime Rate and how is works before you make a decision to make a major draw of equity using this type of home loan.

Similar to a home equity loan, a home equity line of credit can typically be used for any purpose. One feature that a home equity loan does not offer is that if there is no principal balance, there is no interest charged. This makes the home equity line of credit ideal for emergency use.  The loan can remain accessable and available for emergencies without costing the home owner any monthly interest expense.

To find a reputable mortgage lender offering the lowest interest rate on home equity lines of credit, click here.

 

About Author:

Renee Morgan has been a loan officer for over eighteen years. She is also a freelance writer and guest expert for radio and TV.