Home equity loan vs. HELOC, how to choose?

When is a home equity loan the right choice?

Home equity loans allow homeowners take advantage of their home’ s value to access cash easily and quickly. Borrowing against your home’ s equity could be worth it if you are confident you will be able to make payments on time.

A home equity loan may be the best option to finance your home renovation projects especially when:

  • You need a lot of money in a short time
  • You have a strict, fixed budget
  • You’ re paying off higher-interest debt

With a home equity loan, your home is used as collateral. That means similar to a mortgage, lenders can offer lower rates because the loan is secured against the property.

If you need to borrow a large amount of money, the low, fixed interest rate makes a home equity loan a good option. And you’ll likely pay closing costs on this loan. So the amount you’re borrowing needs to make the added cost worth it.

As an added bonus, a home equity loan or HELOC may also be tax-deductible.

Home equity loan pros:

  • You can use the money for virtually any purpose
  • Interest rates are fixed and low
  • You can borrow up to 100% of your equity
  • Your interest payments may be tax-deductible

Home equity loan cons:

  • You’ ll have a second mortgage to pay off on top of your primary mortgage
  • You’ ll have to pay closing costs, costs range from 2%-5% of the loan amount
  • You could pay higher rates than you would for a HELOC

When is HELOC the right choice?

Because of these differences, a HELOC might be a better option than a home equity loan if you have a few less expensive or longer-term remodeling projects to finance on an ongoing basis.

Other things to note about home equity lines of credit include:

  • Your credit score, income, and home’s value will determine your maximum loan amount
  • HELOCs come with a set loan term, usually between 5 and 20 years
  • Your interest rate and loan terms can vary over that time period
  • Closing costs are minimal to none

And, by the end of the term, the loan must be paid in full. Or the HELOC can convert to an amortizing loan.

Note that the lender can be permitted to change the terms over the loan’ s life. This can reduce the amount you’ re able to borrow if, for instance, your credit goes down.

Still, HELOCs offer flexibility. You don’ t have to pull money out until you need it. And the credit line is available for up to 10 years.

HELOC pros:

  • You may qualify for a low APR
  • Interest may be tax-deductible
  • Flexible repayment methods

HELOC cons:

  • You home will be used for collateral
  • The interest rate is variable

Bottom Line

If you need to borrow against your home’ s equity, there are many factors to consider before deciding which loan you need: how you will use the money, the interest rates could be variable, your long-term financial plans.

Some people prefer the home equity loan for the stability and predictability of fixed payments and knowing how much they owe. However, if you’re uncertain about the amount needed and you can accept the variable interest rate, then a HELOC might be the best option. And please notice that your home is the collateral for the loan, so do not to get overextended and borrow more than you can pay back.

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