Home equity loans in the US are a popular option for many who need to finance home improvements, educational expenses or consolidate debt. They offer homeowners low-interest rates and fixed monthly payments, but they also present a risk because they use the home as collateral.
How Does a Home Equity Loan Work?
Your equity in your home serves as collateral for a home equity loan. Your lender determines how much you can borrow based on the amount of equity in your home. Most lenders won’t lend you the entire equity amount, as it increases their risk.
If you’re approved, the lender will create a second mortgage and cut you a check for the full loan amount. You can then use this lump sum however you want and repay it over time with interest. This is a good option if you know exactly how much you need to borrow.
What is the process of getting a home equity loan?
With a home equity loan, you can access the equity in your home, which is the difference between the value of your home and the amount of debt you owe. You will never have to change your payments on a home equity loan since the interest rates are usually fixed.
In the case of a mortgage loan, your home acts as collateral, so if you don’t make the payments, you risk foreclosure.
The best way to choose a home equity loan
Home equity loans are typically conditioned by fixed loan-to-value (LTV) ratios, which means you must have a certain amount of equity in your home to qualify. During the determination of your rate and eligibility, lenders will also take into account your credit score and income. A minimum credit score of 620 or higher, a maximum loan-to-value ratio of 80 percent or 85 percent, and proof of income are generally required.
Consider competitive interest rates, flexible repayment terms, and minimal fees when shopping for a home equity loan. This information is current as of the publication date, but you should always check the lenders’ websites to see the latest details. As a result of factors such as APR, loan amounts, fees, credit requirements, and broad availability, the top lenders are listed below.
Procedure to choose a home equity loan:
- Check your credit score against lender requirements. Some lenders accept borrowers with credit scores in the 600s, while others do not.
- Consider the combination of interest rates and fees offered by each lender. Rates and fees are reflected in the annual percentage rate (APR) of a loan.
- Assess your home equity. Some lenders allow you to borrow up to 90 percent of the value of your home, while others cap it at 80 percent.
- Lenders use your debt-to-income ratio to evaluate your ability to repay the loan, and some allow a higher ratio than others.
- Identify how much you need to borrow. Some lenders offer loans up to $500,000, while others have a maximum of $100,000.
Home equity loan rates on average
In May, Bankrate.com reported an average home equity loan rate of 8.24%. However, this rate can vary from 7.43% to 9.75% depending on the lender, house securing the loan, and your personal financial situation.
Requirements for Home Equity Loans
The requirements for a home equity loan vary from lender to lender. However, all lenders look for responsible, low-risk borrowers.
Most lenders expect borrowers to meet these benchmarks:
- A minimum credit score of 620 is required by some lenders (some may require a minimum score of 680)
- Two years of stable and sustainable income
- Your property must have at least 80% equity
- No more than 43% debt-to-income ratio
- An excellent financial history
- Insurance proof for homeowners
What is the average time it takes to get a home equity loan?
In general, the more organized you are, the faster you will be able to close on a home equity loan. So make sure you have all the documents your lender requires before applying.
In general, you are less in control of other factors, such as the timing of the home appraisal and underwriting process. If your financial situation is clear-cut, the underwriting phase will move more quickly. In the case that you need an attorney at closing, you will be dependent on that person’s availability, which could cause delays.
The process of closing your home equity loan can take up to two months in the best-case scenario.
Home equity loans: Advantages and Disadvantages
Home equity loans have many advantages
- With a home equity loan, you can turn the equity in your property into cash.
- You can use the funds from a home equity loan to cover almost any expense, such as education expenses, renovations, and medical bills.
- A fixed-rate home equity loan means your payments will remain the same throughout the loan’s term.
The disadvantages of home equity loans
- If you take out a home equity loan but haven’t paid off your first mortgage yet, you’ll have to make payments on both loans simultaneously.
- You can’t reborrow against the loan: If you need more money than you expected, you’ll need to get another loan.
- In case of non-payment of your home equity loan, you risk losing your home.
A Guide to Getting a Home Equity Loan
Follow these steps if you want to take out a home equity loan:
- Before applying for a home equity loan, it’s beneficial to review your credit score. Generally, you’ll need a score of 620 or higher to receive favorable terms. Other lenders may accept lower ratings, but this usually means paying higher interest rates and having a bigger income and more equity in the house.
- Find a loan that suits your needs by comparing lenders: Shop around and compare as many lenders as possible. As a first step, you might contact your current lender, but make sure to consider other lenders as well, such as the ones we’ve listed above. However, home equity loans are less common than HELOCs. After that, choose the option that best suits you.
- After choosing a lender, you’ll need to fill out an application and provide any required documentation, such as tax returns.
- You can generally expect the process from applying to closing on the loan to take anywhere from two weeks to two months. If you’re approved, the lender will have you sign for the loan so the funds can be released to you.
Home equity loans vs. HELOCs
It depends on your individual circumstances and financial goals whether you should take out a HELOC or a home equity loan to tap into your home equity.
If you have multiple expenses to cover, a HELOC gives you access to a revolving credit line that you can draw upon and pay off at any time. However, a HELOC usually has a variable interest rate, which means your rate may fluctuate in the future.
A home equity loan, on the other hand, is paid out as a lump sum that you can use how you wish. It typically comes with a fixed interest rate, which means that you’ll pay back what you borrowed in equal installments. If you know what amount you need to borrow and prefer a structured loan over a HELOC, this could be your best option.
As both HELOCs and home equity loans are second mortgages, you will have to pay two loans simultaneously. To replace your first mortgage with a cash-out refinance, you might want to tap into your home’s equity without having to make two sets of payments.
Alternatives to Getting Equity Out of Your Home
You can access the equity in your home without selling it in a few ways.
Refinancing with cash out
With a cash-out refinance, you replace your original mortgage with a new, larger one. The new loan pays off your old loan and covers your closing costs.
Your existing mortgage might not be appealing to you—perhaps because of its high-interest rate or the fact that it’s a Federal Housing Administration (FHA) loan that requires permanent mortgage insurance. The closing costs might be worth it if you qualify for a cash-out refinance loan with a good rate. If not, a home equity loan might be more appropriate.
Co-investing in the home
During home co-investing, also known as equity sharing or shared appreciation, you receive cash in exchange for selling a portion of your home interest to an investor. The investor could be an individual, or they could be a company that either invests themselves or connects with investors. Examples include Unison, Point, Hometap, HomePace, EquiFi, and Unlock.
Because it’s not a loan, you don’t have to pay it back. The investor gets its money back when you sell your home, adjusted up or down by a share of the value change in your home. You usually have 10 to 30 years, or even your whole life to get out of the agreement. When you exit, you sell your house, refinance it, or use your savings to repay the investor.
Line of credit for home equity
When you’re paying for construction, home renovations, or other expenses over time, a home equity line of credit (HELOC) can be a good choice. Unlike a credit card, a HELOC allows you to borrow as much or as little of your available credit as you want; you don’t have to pay it back all at once. If you don’t close your HELOC within 36 months of opening it, closing costs can be minimal.
HELOCs also allow you to make interest-only payments during your first few years of borrowing, called the draw period. Once the draw period ends and the repayment period begins, which can be as long as 20 years, you’ll repay both the interest and principal. The interest rate is variable, so your monthly payments may change compared to a home equity loan.
Here are our top picks for the best home equity loans
- Discover- Best for Low Fees
- Connexus Credit Union – Best Introductory Rates
- Flagstar – Best for Large HELOCs
- Regions Bank – Best Flexible Repayment Terms
- Truist – Best Fixed-Rate HELOC
- Figure – Best for Quick Approvals
- U.S. Bank – Best for Borrowers with Good Credit
- Citizens Bank – Best for Customer Experience
- Navy Federal Credit Union – Best for Military and Veterans
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