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How Long Are Home Equity Loan Terms?

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A home equity loan is a lump sum of cash paid to you and secured by your home. Depending on your lender, home equity loan terms can range from five to 30 years.

Homeowners across the U.S. have collectively gained more than $1.5 trillion in home equity during 2020, according to data from CoreLogic. Turning that equity into spendable cash sounds attractive if you need to consolidate high-interest debt, expand a business or replace an aging roof.

What home equity loan terms can I get?

Home equity loan terms can be tailored to suit your individual needs. Repayment terms usually start at five years, but can be stretched to between 10 and 30 years, depending on your home equity lender.

Just as some homeowners may choose a longer-term mortgage and pay it off early, you may opt for a longer home equity loan term length and make extra payments to pay it down faster.

Which home equity loan term should you choose?

The best home equity loan term for you more than likely depends on the monthly payment amount you can comfortably afford. After all, your lender will consider your debt-to-income (DTI) ratio, or the percentage of your gross monthly income used to repay debt, when qualifying you for a loan. In most cases, your DTI ratio shouldn’t exceed 43%.

Let’s compare the home equity interest rates and monthly payments on a $25,000 balance with five-, 10- and 15-year home equity loan terms.

5-year home equity loan 10-year home equity loan  15-year home equity loan 
Loan amount  $25,000 $25,000 $25,000
Interest rate*  5.30% 5.60% 5.85%
Monthly payment  $475.22 $272.56 $208.94
Total interest paid $3,513.56 $7,706.64 $12,610.23

*Rates are current as of this writing.

If a nearly $500 monthly payment on a five-year home equity loan for $25,000 would stretch your budget too thin, you might consider a 10- or 15-year term. For an even larger loan balance, it may make sense to opt for a longer repayment term to maintain a comfortable cash flow.

How does a home equity loan work?

A home equity loan is a type of second mortgage that allows you to borrow against your home equity, or the difference between your home’s value and your outstanding loan balance. Similar to a mortgage used to buy a home, the loan is repaid in fixed monthly installments and the home is used as collateral. Home equity loans are repaid after first mortgages in the event of a foreclosure.

You typically need a maximum 85% loan-to-value (LTV) ratio to meet home equity loan requirements. Your LTV ratio is the percentage of your home value that is financed by a mortgage. Additionally, you may be limited to borrowing 85% of your home’s value, minus your outstanding loan balance, though some lenders offer high-LTV home equity loans.

Home equity loans vs. HELOCs

A home equity line of credit (HELOC), on the other hand, is another type of second mortgage that uses your home as collateral. You receive the funds on a revolving credit line instead of a lump sum, and make payments based on what you borrow, plus the interest charged on that balance. As long as you have access to the credit line it can be used, repaid and used again.

Home equity line of credit interest rates are usually variable and can be lower than rates on home equity loans. That’s because home equity loans have fixed interest rates for the entire repayment term and won’t change with market movements.

You may be able to claim the mortgage interest deduction for either a home equity loan or HELOC — provided you use your equity to make home improvements to the main home or second home securing the loan or line of credit.No matter your choice, make a list of the pros and cons of borrowing and be sure your budget can handle another monthly payment before tapping your equity.

Should you consider a cash-out refinance instead?

A home equity loan or HELOC may not be the right option for every homeowner looking to tap the equity in their home. Another option is a cash-out refinance, which allows you to take out a new mortgage for more than you owe on your original home loan. The new loan pays off your existing mortgage, and you receive the difference between the two loan amounts in a lump sum.

As with a home equity loan, you can use your cash-out refinance proceeds for virtually any purpose. One advantage a cash-out refi has over a home equity loan is that it eliminates the need for a second mortgage payment, because you’re tapping your home equity and refinancing your mortgage with the same loan.

One drawback is that you’ll pay refinance closing costs, which can range from 2% to 6% of your new loan amount. You can also expect to pay more in interest over the life of your loan, especially if you extend your repayment term.

 

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