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A home equity loan (HEL) allows you to borrow against a portion of your home’s equity. Your lender provides the equity — the difference between what you owe on your mortgage and your home’s market value — in a lump sum.
A home equity line of credit (HELOC), on the other hand, is a revolving line of credit you can draw on when needed, during the preset draw period.
Interest rates on HELs and HELOCs are typically higher than traditional mortgage rates because they are types of second mortgages, which take second position behind your original home loan. If you lose your home to foreclosure after defaulting on your loans, your original (first) mortgage lender would be repaid before your home equity lender.
If local home values drop, you might not have enough equity to pay off both your first and second mortgage if you have to sell your home. Or, if you fall on hard times, you might have to prioritize making payments on your first mortgage, leaving you behind on your second. Lenders consider these extra risks when offering home equity loan rates.
The rates and ranges in the table assume a $25,000 home equity loan or HELOC on a property with an 80% LTV ratio.
| Loan type | Average rate | Range |
|---|---|---|
| 15-year fixed | 5.21% | 2.25% - 11.75% |
| 10-year fixed | 5.02% | 2.38% - 9.75% |
| 5-year fixed | 4.73% | 1.99% - 9.50% |
| HELOC | 4.26% | 1.89% - 8.00% |
A HEL is provided in a lump sum and immediately repaid in monthly installments, while a HELOC is a revolving line of credit that works similarly to a credit card. Your lender approves you for a certain amount that you can spend as needed. You make payments on what you borrow rather than the total credit line.
HELOCs often have a 10-year draw period, during which you can borrow from the available credit line and pay interest only on the balance used. After the draw period ends, you’ll enter the repayment period, when you’ll pay off the remaining balance.
HELOCs usually come with variable interest rates, though some lenders do offer fixed-rate HELOC options. HELs tend to have fixed interest rates.
You can qualify for a bad credit home equity loan or line of credit with as low as a 620 credit score, but you may have to shop around more than a borrower with good to excellent credit. Get quotes from at least three to five lenders, and be prepared to explain what led to your credit challenges.
Common scenarios when it might make sense to take out a home equity loan or HELOC include:
Cash-out refinance
If current mortgage rates are low, it may be worth replacing your existing home loan with a new mortgage that has a larger loan amount and pocketing the difference with a cash-out refinance. Choose from conventional or government-backed refinance programs — the latter offers more flexibility than HEL programs for borrowers with lower credit scores.
How it compares to a home equity loan
Reverse mortgage
Homeowners 62 years or older may be eligible for a reverse mortgage, which allows you to convert your equity into income without having to make a monthly payment. The big difference between a reverse mortgage and a regular “forward” mortgage is your loan balance grows and home equity shrinks over time.
How it compares to a home equity loan:
Personal loan
An unsecured personal loan can be a viable option, especially if you have little to no equity built in your home. There’s no collateral required to secure a personal loan, which means you wouldn’t be putting your home at risk of foreclosure by using it as collateral.
How it compares to a home equity loan:
Home equity is the difference between your home’s market value and what you currently owe on your mortgage. As you pay your loan balance down and home values increase over time, home equity usually grows.
To calculate how much home equity you have, subtract your outstanding loan balance from your home’s value. For example, if your home is worth $200,000 and your mortgage balance is $150,000, you have $50,000 of equity.
Most home equity lenders let you tap up to 85% of your home’s value, minus your outstanding first mortgage balance. Some lenders may offer high-LTV home equity loans that allow you to borrow more.
Home equity loan interest rates change with the financial markets, but are typically lower than other forms of borrowing, such as unsecured personal loans or credit cards.
It may take two to four weeks to close on a HEL. You may receive the funds at closing or a few weeks later, depending on the lender.
Making late payments on a HEL could damage your credit score. If you default on a HEL, you could lose your home because your home is the collateral that secures the loan.
Yes, if home equity loan funds are used for home improvement, the interest you pay on the loan can be deducted from your taxable income each year.