Owning a home can be intimidating, but you’re not in it alone
"Home is the nicest word there is."
- Laura Ingalls Wilder
HELOC and Home Equity Loans: What Are They?
Date Published: Mar 11, 2021
While it may sound intimidating or mysterious, building home equity over time is a big benefit in owning a home. Home equity is the difference between how much your home is worth and how much you owe on your mortgage loans. The value will go up or down over the years of ownership as you make payments on the mortgage and as fluctuations in the housing market affect the value of your home.
For example, let's say you purchase a home that is $100,000 with a down payment on it of 15% or $15,000, and you plan to pay the remaining $85,000 with a mortgage. You currently have an equity of $15,000 in the house. Now, if the market value of the house stays the same for the next three years, and you make $5,000 of payments to the principal of your mortgage, then you will have $20,000 in home equity.
As an owner, you do have the possibility to leverage your home equity, in the shape of collateral, with a home equity loan or a home equity line of credit (HELOC). So, as the title of this post says, what are these features?
Home Cash Equity Loan
Sometimes known as a second mortgage loan, home cash equity loans provide you with a lump sum of cash against the equity in your home and are a great option if you need money for a one-time expense, such as a home renovation project or college tuition. These loans offer you a fixed rate and an amortization over a period of twenty years and a five year balloon feature. The balloon feature means that the remaining balance owed will be re-written into a new loan every five years.
For example, if you know that you will need exactly $14,937 for something than you can use a home equity loan to borrow exactly that and pay it back over time, but equity must be available. It is a fixed amount, fixed rate and one-time deal.
Home Equity Line of Credit
HELOCs are a little different from home cash equity loans. They are a revolving source of funds or line of credit that has an adjustable interest rate. The revolving feature of a HELOC allows you to borrow money over anytime, up to your approved credit limit, and you can continuously borrow up to a set limit while paying off the balance.
If you end up reaching your approved credit limit, the funds will become available for you to borrow again as you pay down the balance owed during the first ten years of your loan. This loan features an adjustable interest rate and has a total term of twenty-five years, with a ten year draw period and a fifteen year repayment period
The flexibility that HELOCs offer have both plusses and minuses. On the positive side, once your application for a HELOC is approved and opened, a new loan request is not required for every draw or advance. Allowing it to work as a great emergency fund and it makes financing home remodels less intimidating. Plus you get to save time and money by not having to re-apply for a loan each time you need some more funds, but that's not all. You also will save money on interest since you will not need to take the full amount you have on the line of credit all at once.
On the other hand you can get into trouble with HELOCs, but it is trouble that is easy to avoid. With a HELOC, it is easy to spend your available funds on things you really don’t need and whatever money you spend, you have to pay back with interest. So, you need to be somewhat careful with your spending with, a HELOC, and make sure you pay your funds back.