Given the differences between home equity loans and HELOCs and can be challenging to compare the two. A home equity loan has a fixed interest rate and loan amount while a HELOC usually has an adjustable rate and your loan amount varies depending on the amount of proceeds you have drawn down. Below we outline the key terms to focus on so you can select the financing option that is right for you.
APR. Annual Percentage Rate, or APR, is a figure that reflects both the interest rate and lender costs for a loan. You can use the APR to more easily compare loan terms for a home equity loan and HELOC. When you are evaluating a HELOC it is important to use the after introductory period ARP because this figure is most comparable to the APR for a home equity loan.
Minimum Initial Draw. This loan term applies to HELOCs and is the minimum loan you are required to have outstanding at closing. If you want financing flexibility in the future but do not need a significant amount of proceeds in the near term then you should look for a HELOC with a lower minimum initial draw. Please note that because the interest rate for a HELOC increases after the introductory period, you should be prepared to make a monthly payment based on your initial draw amount and the higher rate.
Introductory Period Rate. While most home equity loans have a fixed rate that applies for the entire loan term, HELOCs usually have an introductory rate that is good for one month to a year. This rate is also known as a teaser rate because it is significantly lower than the rate you pay when the introductory period expires. Your HELOC loan payment is usually lowest during the introductory period but increases when you are required to pay the higher rate, depending on your outstanding loan balance.
After Introductory Period Rate. For a HELOC, the after introductory period rate is the interest rate you pay when the introductory period ends, so this is the rate you pay for most of the line. This interest rate may be fixed or adjustable but either way, it is higher than your introductory rate. If you have a HELOC with an adjustable rate then your interest rate and payment are subject to change and potentially increase over the course of the loan. Although you can manage your payment by paying down your HELOC, this is an important factor to keep in mind.
Loan Length. The length of your loan is another input to consider. Home equity loans and HELOCs usually range from ten to thirty years with most being ten or twenty years. Loan length impacts your interest rates, monthly payment and other loan terms as shorter-term loans usually have lower rates.
Ask About Discounts. Some lenders offer discounts on home equity loans and HELOC rates or fees if you open up a bank account or set up automatic payments with the lender. When you are shopping for a home equity loan or HELOC be sure to inquire about potential discounts as this can save you money on your loan.
A home equity loan or HELOC enables you to access the specific amount of money you need as compared to a full refinance of your mortgage. A smaller loan amount means that your monthly payment and total interest expense over the life of the loan are lower with a home equity loan or HELOC.
Most lenders impose relatively few limits on how borrowers use the proceeds from a home equity loan or HELOC. You can use the money from a home equity loan or HELOC for any number of reasons including to pay-off expensive credit card debt, for home improvements or even school tuition. Although most lenders want to understand how you plan on using your loan proceeds, a home equity loan or HELOC provides you significant flexibility on how you use the equity in your home.
A home equity loan or HELOC is less costly and time-consuming compared to alternate ways of tapping the equity in your home including a cash-out refinance. Transaction expenses and fees for a home equity loan or HELOC are typically less than the closing costs to refinance your mortgage because the loan amount is smaller. Additionally, the application and closing process for a home equity loan or HELOC are shorter than the time frame for a refinance. Please note that home equity loan rates and HELOC rates are typically higher than first mortgage rates but the loan amount is smaller so your total interest expense is lower.
Lenders typically apply a higher borrower debt-to-income ratio for a home equity loan or HELOC than for a mortgage, which potentially enables you to borrower more money. For example, depending on multiple factors, the maximum debt-to-income ratio for a mortgage is typically 45% to 50% while the maximum debt-to-income ratio for a home equity loan or HELOC is usually 55% or possibly higher under certain circumstances. Using a higher debt-to-income ratio enables you to borrow more money.
With a home equity loan or HELOC, to determine what size loan you qualify for lenders primarily focus on the value of your home and the combined loan-to-value (CLTV) ratio of your first mortgage plus your home equity loan or HELOC. CLTV is the ratio of all mortgages against a property divided by the current fair market value of the property. In some cases the maximum CLTV ratio for a home equity loan or HELOC may be higher than the LTV ratio for a refinance. Applying a higher CLTV ratio enables you to access more equity in your home even though the loan amount for a home equity loan or HELOC is smaller. For example, if your home is valued at $100,000 and the lender uses a CLTV ratio of 85% for a home equity loan as compared to 80% for a mortgage refinance, you can tap $5,000 more of your equity with the home equity loan.
In short, a home equity loan and especially a HELOC, are cost-effective ways to borrow money so they effectively enable you to use your property as a bank. If your property value has increased then you may be able to borrow a significant amount of proceeds. Additionally, because home equity loans and HELOCs are secured by your home, your interest rate is usually lower than other financing options such as personal loans or credit cards, which saves you money.
Comparing home equity loan rates and HELOC rates can save you thousands. Use our rate tables to find the lender offering the lowest rates and fees
Our rate tables put you in control. You can compare lenders anonymously plus you never need to provide your social security number
Review home equity loan rates and HELOC from leading lenders. Our lenders offer highly competitive terms to win your mortgage business
Understand how a home equity loan works including interest rate, qualification requirements and other key loan terms
Review our comprehensive overview of of how a HELOC works including loan-to-value ratio limits, types of HELOC and other guidelines
Review our detailed comparison of a home equity loan and a HELOC to determine the financing option that is right for you
Review an informative explanation of the trade-offs between a home equity loan and a mortgage refinance
“My lender offered me a home equity line of credit (HELOC). What is a HELOC?” CFPB. Consumer Financial Protection Bureau, February 24 2017. Web.