Home Equity Loans

Home equity loans allow a homeowner to borrow money by pledging the house as collateral. Borrowers who want to borrow a relatively large amount of money or who don’t have good credit often find the home equity loan to be attractive.

A home equity loan is a type of second mortgage, not to be confused with a home equity line of credit.

Lenders may be more liberal because they view home equity loans as relatively safe. You can’t disappear with your house or hide it if you default on your loan, so the lender has a good chance of collecting the collateral. Also, you are likely to make your payments a priority if your home is on the line.

Advantages of Home Equity Loans

Home equity loans are attractive to borrowers for a few main reasons:

• They typically have a lower interest rate (or APR)
• They are easier to qualify for if you have bad credit
• Payments on a home equity loan may be tax deductible
• Borrowers can get relatively large loans with this type of loan

Common Home Equity Loan Uses

Borrowers use home equity loans for some of life’s larger expenses, because homes tend to have a lot of value to borrow against. For example, you find that a lot of borrowers want to

• Remodel or renovate the house
• Pay for a family member’s college education

Pitfalls of Home Equity Loans

Before using a home equity loan for any purpose, you should be aware of the pitfalls of these loans. The main thing is that you can lose your home if you fail to meet the payment schedule required by the loan.

Another common pitfall of home equity loans is that scammers have found plenty of ways to cheat homeowners out of their most valuable asset. Be sure that you know who you’re doing business with. If something smells fishy (like a high-pressure sales pitch or an inability to put things in writing), then take a step back and make sure the deal is legitimate.

How to Find the Best Home Equity Loans

Finding the best home equity loan can save you thousands of dollars – at least. In order to get the best loan, I recommend that you:

• Shop around. Try a variety of sources (banks, brokers, and credit unions)
• Manage your credit score and make sure your credit reports are accurate
• Ask your network of friends and family who they recommend
• Compare your offers to those found on websites and advertisements

Additional Home Equity Loan Tips

To make the deal work out in your best interest, make sure that it is the right deal in the first place. Is a home equity loan a better fit for your needs than a simple credit card account? If you’re not sure, figure it out before you put your home at risk.

Plan out your budget ahead of time. Make sure that taking the loan will not overburden you.

Review and consider insurance to cover the payments if something happens. You may or may not need insurance. If you’re going to include it in your program, try to pay the premiums monthly – not up front.

Home Equity Lending

helping you unlock the
equity value of your home

submit for your FREE home equity quote

home equity calculators - FREE home equity tools

step 1: understand your potential power [see how]
step 2: use loan shopping sheet [get sheet]
step 3: get lenders to compete [view premier list]

Select State: Alabama Alaska Arizona Arkansas California Colorado Connecticut DC Washington Delaware Florida Georgia Hawaii Idaho Illinois Indiana Iowa Kansas Kentucky Louisiana Maine Maryland Massachusetts Michigan Minnesota Mississippi Missouri Montana Nebraska Nevada New Hampshire New Jersey New Mexico New York North Carolina North Dakota Ohio Oklahoma Oregon Pennsylvania Rhode Island South Carolina South Dakota Tennessee Texas Utah Vermont Virginia Washington West Virginia Wisconsin Wyoming

Six dirty secrets of home equity loans

NEW YORK (CNN/Money) – Rapidly appreciating real estate has been the saving grace in a brutal bear market that's now gone on almost three years. And homeowners have taken notice: they've been tapping those growing pots of gold to cover expenses like home improvements, new cars and college tuition.

In a typical home equity loan, you borrow cash against the equity in your home and repay it over a fixed term. You pay most of your fees and closing costs upfront and choose a fixed or variable interest rate. Sounds simple, right?

It usually is. But some home equity loans harbor dirty little secrets. They trap consumers into paying more than they should and can even force them to foreclose on their homes if they get in over their heads. Remember: All home equity loans put your house on the line since your property is used as collateral. And that's the last thing you want to lose.

Before you sign on the dotted line, make sure you know about these six dirty secrets.

The balloon payment Beware the home equity loan that tempts you with unrealistically low payments. Look carefully at the terms: payments might be that low because borrowers pay only interest each month.

That means you must pay the entire principal -- the amount you borrowed -- at the end of the loan term in one very large lump sum called a balloon payment, according to the Federal Trade Commission (FTC). Ouch.

Negative amortization If you think that's bad, it could be worse. Sometimes, your monthly payments on a home equity loan don't even cover all of the interest you owe, said Margot Saunders, a lawyer at the National Consumer Law Center.

That means interest continues to accrue and the total amount owed rises – even though you're not borrowing any more money.

For example, $20,000 borrowed at 10 percent over five years would require monthly payments of $425 to wipe the balance sheet clean by the end of the term. But say your loan amortizes negatively (meaning you're not covering the full tab), and your monthly payments are $150 apiece. At the end of five years, instead of owing nothing, you've paid $9,000 back, but you owe $21,000. That's because you still owe the principal plus additional interest that has accrued over the term of your loan.

Saunders said this type of predatory lending occurs less frequently with home equity loans today than it did five years ago.

Thanks, but no thanks When it comes time to put your John Hancock on a home equity loan, make sure you recognize every document placed in front of you. If the lender asks you to sign papers that include monthly charges for insurance premiums or other 'services' that weren't mentioned before, that's questionable. The FTC calls it 'credit insurance packing'.

If you refuse to sign an 'extra' document, and the lender objects or says your loan papers will have to be rewritten or reconsidered, walk away.

Prepayment penalties Paying debt early should be a good thing. Watch out for loans that charge steep penalties for 'overpaying' each month and wiping out your debts before your term is up, said Saunders. A predatory penalty might be 10 percent of the amount borrowed or a sum equal to three months' worth of payments.

"Sometimes, consumers aren't allowed to prepay, and that's not fair," said Saunders. "You should always be able to get out of a high-interest loan early."

"Home improvement" loans Dishonest lenders sometimes issue unwitting consumers home equity loans with high rates and fees to finance repairs and home improvements, according to the FTC.

In such scams, a contractor (who works in cahoots with the lender) arranges for work to be done and tells the consumer he knows of a cheap way to finance the project.

"The typical pitch they give you is for good, low-cost financing," Saunders said. But the consumer isn't given documents to sign until after the work begins. Only then does he realize he is being issued a home equity loan, and probably an expensive one. But if he tries to negotiate terms or back out, the contractor threatens to leave the work undone.

You have three days Okay, it's not exactly a dirty secret – it's a legal right. But it's crucial information for anyone who wishes to borrow against their home equity.

If you're borrowing against the equity in your primary residence, you have the right to walk away from that home equity loan if you change your mind for any reason within three days of its issue, according to the Truth in Lending Act.

You must inform the lender of your wish to cancel the loan in writing and within three days of issue. The lender must then cancel its security interest in your home and return all fees to you, including any application and appraisal fees you paid to open the account.

Home equity can be used to buy car

Dear Dr. Don,
My husband thinks that taking out a home equity loan for car is a wiser thing to do than getting a car loan. I beg to differ!

Roughly five years ago, I bought a brand new Altima from my credit union at 4.9 percent interest. It was a five-year loan that I managed to pay off in four years. I know a home loan is tax-deductible, but in the long run is it better than simply taking out a car loan with a much better interest rate?

Even more troubling, what if we buy the car with a home equity loan and realize we can't pay the loan back?
-- Certain Cheryl

Dear Cheryl,
Although in general I agree with your husband, you've gotten down to the crux of the matter. You're better off with the auto loan if you can get a better rate from your credit union on an auto loan than the effective rate of interest on the home equity line or home equity loan. You may have gotten a lower rate with your credit union loan, making it the better decision for you.

A while back, I worked with The Washington Post's nationally syndicated columnist Michelle Singletary on a calculator that compared the different types of loan options to estimate which loan would give you the lowest total interest cost on an after-tax basis. The "What's the best way to finance a car purchase?" calculator is still available on Bankrate.

When getting a low rate from a dealer, you'll want to compare the loan against any rebate offered in lieu of the low-interest financing. Bankrate's auto loan calculator, "Which is better: a rebate or special dealer financing?" can help with that decision.

The current Bankrate Interest Rate Roundup has the national average for a five-year auto loan at 6.96 percent. The national average for a home equity line of credit is 5.75 percent, and a home equity loan is 8.43 percent. So a HELOC easily trumps the auto loan. The home equity loan can, too, on an effective rate basis.

If you can afford to pay the auto loan back, you can afford to pay the same amount back on a home equity line or loan. A lower interest rate and a longer term make those payments more affordable. One big advantage to the car loan is that you're not betting the house with the risk of foreclosure. Instead, you're just betting the car -- with the risk of repossession.

Read more Dr. Don columns for additional personal finance advice.

Home-Equity Loan

What Does Home-Equity Loan Mean?
A consumer loan secured by a second mortgage, allowing home owners to borrow against their equity in the home. The loan is based on the difference between the homeowner's equity and the home's current market value. The mortgage also provides collateral for an asset-backed security issued by the lender and sometimes tax deductible interest payments for the borrower.

Also known as "equity loan" or "second mortgage".

Investopedia explains Home-Equity Loan
A home-equity loan is basically a line of credit secured by your home. When the line of credit is drawn down, the financial institution providing it places a second mortgage loan on your home until the loan is paid off, after which the you can use the loan to finance other purchases. However, if the loan is not paid off, your home could be sold to pay off the remaining debt. Interest rates on such loans are usually adjustable rather than fixed and lower than standard second mortgages or credit cards.

Related Terms

• Annual Percentage Rate - APR
• Asset-Backed Security
• Home Equity
• Home Equity Line Of Credit - HELOC
• House Poor
• Line of Credit
• Mortgage
• Mortgage Equity Withdrawal
• Reverse Mortgage
• Variable Interest Rate
• More Related Terms

Related Links

• Home-Equity Loans: The Costs - Learn the factors to consider when comparing the different programs offered by various lenders.
• Mortgage Asset-Liability Management Made Easy - Should you refinance your mortgage to purchase other assets? Learn how to weigh your risk.
• Protect Yourself From HELOC Fraud - Identity thieves are using home equity lines of credit to commit their crimes.
• Different Needs, Different Loans - Find out what options are available when it comes to borrowing money.
• The Home-Equity Loan: What It Is And How It Works - This article sheds light on why consumers decide to use this form of debt and whether it is always a good alternative.
• The Reverse Mortgage: A Retirement Tool - Discover another way to fund your retirement without having to make payments on a loan.
• The Mortgage Interest Tax Deduction - If you're a homeowner, this is one item you want to understand and use on your return.
• I sold my house. Can I exclude the gain from my income?