Which is Better: A HELOC or a Home Equity Loan?

    Home Equity Loan
    Home Equity Loan

    You have equity in your home and want to use it for a loan to finance a big expense, and perhaps cover some debts. You believe you’re eligible for both, but you’re wondering which is better: a HELOC or home equity loan? It largely depends on your circumstances, but let’s look at each.

    What is Equity?

    Just so we’re clear, equity is the difference between how much your home is worth and how much you owe. That equity can be converted to cash.

    What is a Home Equity Loan?

    This is a loan for a set amount that’s repaid over an established period. It uses the equity you have in your property as loan collateral.

    How Does a Home Equity Loan Work?

    If your loan is approved, it will be for part of your equity – not the whole amount. Most lenders will let you borrow up to 85 percent of your equity.

    You’ll get the amount in a lump sum, which is to be repaid in monthly installments. You’ll usually have between five and 20 years for repayment, although some loans are for 30 years.

    Because the loan’s monthly and interest rate are fixed, there’s no guesswork involved.

    Home Equity Loan Benefits

    There are certain advantages to home equity loans:

    • You can deduct interest on loans used for home renovation.
    • Rates are generally lower than credit cards or personal loans because your home is collateral.
    • Potentially long repayment terms. Or, if it better suits you, a shorter term can be chosen for faster loan payoff.
    • Your payment is fixed.
    • Your interest rate is fixed.

    Home Equity Loan Drawbacks

    • You may have closing costs.
    • If area property values drop, you risk having tapped too much equity at one time.
    • Because the loan rate is fixed, you might pay a higher interest rate than you would for a HELOC.
    • You could lose your home if you miss payments.
    • You must pay a second mortgage in addition to your primary mortgage

    What is a HELOC?

    A HELOC – home equity line of credit – is a revolving type of credit that’s secured by your home. You can borrow however much you want, up to your credit line, and interest is charged only for the amount borrowed. Terms are generally flexible, and as with a credit card, the credit can be used again as the balance is paid down.

    To determine how much you may be able to borrow, use the Bills.com HELOC calculator.

    How Does a HELOC Work?

    A HELOC also permits you to borrow up to 85 percent of your home equity. However, it carries a variable interest rate. This means your rate can change depending on market conditions. With some lenders, there may be a period in which the rate is fixed.

    With HELOCs, there are two phases:

    • The draw phase. This is when the HELOC is available for use as needed. You’ll make minimum payments or interest-only payments on amounts borrowed.
    • The repayment phase. You can no longer tap your credit line and must repay your principal and interest balance. This phase usually lasts between 15 and 25 years.

    HELOC Benefits

    • Payoff flexibility includes the option to switch part of your balance to a fixed rate.
    • You can deduct interest on a HELOC used for home renovation.
    • You can borrow what you need, and when, and just repay that amount, plus interest.
    • You can tap into funds repeatedly sans loan reapplication.

    HELOC Drawbacks

    • Here, too, if you can’t make payments, you risk losing your home.
    • You may be tempted to overspend.
    • Fluctuating payments and interest charges.

    Generally, a HELOC can help you handle ongoing expenses, while a home equity loan is ideal for one-time expenses. Both are essentially second mortgages — loans secured by your home. Ultimately, whether a HELOC or home equity loan is better hinges on your goals and financial situation.

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