Your home is your greatest asset, and recently many people have been finding ways to use this asset to benefit them, through the equity they have accumulated during their years of home ownership. Home equity loans and lines of credit both use the home equity as collateral for a loan, and since the lender has the security of this collateral, you will get a much lower rate on a home equity loan than you would on, say, a credit card or car loan.
In fact, a popular use for equity loans is paying off any high interest rate debt you may have. It doesn't take a financial wizard to figure out that if you have credit card debt with a 22% APR (annual percentage rate), and you pay it off with a home equity loan that has a 6% APR (not at all uncommon) you'll save money.
But however you intend to use the loan, if you need a fairly large amount of money, using that equity is one of the best ways to get it. There are two main types of home equity loans, the traditional equity loan or an equity line of credit. The traditional loan is, as the name indicates, traditional. You receive a lump sum, usually at a fixed interest rate, and you pay it back on a set payment schedule. The line of credit works more like a credit card. You withdraw money as you need it, as long as you don't go over the set limit. Also like a credit card, you can withdraw and repay the money as many times as you want to until the end of the loan, at which point the debt must be repaid in full. The interest rate usually varies with the market.
Whichever equity funding option you decide on, there is one major downside you need to be aware of: the fees. Besides the interest rate, there are several fees that may be associated with equity loans. The largest of these is closing costs. Just like when taking out a mortgage, you will almost always have to pay something in closing fees, usually about 2-5% of the amount of the equity loan is required. You may have to pay ‘points' as well. A point equals one percent of the loan amount, and the more you pay in points the better interest rate you should be getting. Early cancellation fees may also apply, and some equity loans even require yearly “service” fees. Before you sign anything, know any fees that may apply, so you don't get a nasty surprise when it's too late to do anything about it.
Ways to save money on your equity loan:
- Don't stretch the loan out longer than you have to, or take out more money than you need. Longer equity loans, and larger equity loans, mean higher interest rates.
- Look at the cost as one piece. Don't get so focused on getting a good interest rate that you forget to find out about fees, likewise, don't take the offer that advertises “no closing costs!” if it has a 15% interest rate.
- Comparison shop! I can't stress this enough. You need to know what is available for someone in your situation before you make your decision. A little extra time can save you a lot of extra money, money that you have better uses for than lining some lender's pocket.
- Know your credit before you shop. This is the only way you will be able to get accurate information about equity loans from lenders. You can get a copy of your credit from Equifax, Experian, or TransUnion. Be suspicious of places that say “No credit required.”
We hope this information helps your search for equity funding to be as smooth, and as cost-effective as possible!