April 14th, 2014

Which home equity loan is best for me?

146727765If you are planning a home improvement project this spring or looking for a good way to consolidate your high-interest debt, you may be thinking about borrowing against the equity in your home. While that can be a great way to get the money you need, knowing a little about the available options can help you avoid ending up with the wrong loan.

Why would you borrow against your home’s equity?

There are a few common reasons to get a home equity loan:

To Consolidate High-Interest Credit Card Debt
Interest rates on a home equity loan or line of credit are typically much lower than rates on a credit card and because the payment term on equity loans are typically longer, you can lower your total monthly payment, which can provide breathing room in your monthly budget.

For example, let’s say you have $30,000 in credit card debt at an interest rate of 14.99%. If you made just the minimum payments on this card of $600, or 2% of the balance, it would take you 44 years to pay off the balance in full and you’d end up paying $48,826 in interest.

What if you had equity in your home and instead took out a $30,000 loan? We’ll use 2.99% interest, SMCU’s currently discounted home equity rate, and we’ll assume a 5-year repayment period. Under this scenario, you’d make 60 monthly payments of $538.93 and pay just $2,336 in interest over the life of the loan – a savings of $46,490 – and pay off your debt nearly 40 years faster.

To Pay for Home Improvements or Repairs
You may want to take out a loan on your equity to remodel or renovate your home. However, if you choose to do this, you should make sure you are doing a renovation that gets you the most bang for your buck – the loan you take out should increase the value of your home more than what it costs you.

For example, if your home is worth $300,000 and you get approved for a $50,000 HEL, you might use the money to remodel your kitchen or bathroom. These projects should add more equity to your home than the cost – so your home should be worth over $350,000 after all is said and done.

According to Remodeling Magazine’s annual Cost vs. Value Report for 2014, the top 5 home remodeling projects adding the most value to homes are: entry door replacement, deck additions, converting an attic to a bedroom, garage door replacement, and a minor kitchen remodel.

To Pay Education Expenses
College is expensive and can be hard to pay for, so it might make sense for you to take out a home loan to pay for your child’s college education. This makes sense if the rate on your home equity loan is lower than other alternatives such as parent student loans, credit cards or private loans.

Which Type of Equity Loan is Right for You?

There are two main types of loans you can get from the equity in your home: a fixed-rate home equity loan (HEL) or a home equity line of credit (HELOC). Both loan types typically come with low interest rates, can be tax deductible, and can give you access to your cash when you need it.

469609889The amount you borrow on both a HEL and a HELOC is often limited to about 80% of the equity in your home. For example, if your home is worth $200,000 and you have a mortgage of $100,000, you’d be able to borrow up to $80,000.

Both a HEL and a HELOC allow you to borrow money by leveraging the equity in your home, but only one of them might be right for you.

A HEL is a good option if you need to receive all of your funds up front and prefer to pay your loan in set payments each month, since the interest rate is fixed. HELs are often used to finance major purchases, whether it’s medical bills, home renovations, debt consolidation, or student loans.

A HELOC is a better option if you need access to your funds, but might not need a specific amount of money. You should think of a HELOC as you would a credit card because it is a revolving line of credit – you use the amount of money you need and then pay it back at a variable interest rate.

With a HELOC you don’t have fixed payments because you are only paying back the amount you actually borrow, not the full credit line available. So a HELOC gives you flexibility with access to your money.

Used correctly, home equity loans can be a great financial resource to help you pay off debt quicker or increase your home equity. To find out if an equity loan can help you reach your goals, call one of SMCU’s equity loan experts at 1-855-575-9352 or visit smcu.com/equity to learn more about SMCU’s Home Equity Loans.

Steve Nicastro, NerdWallet

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