When a Home Equity Loan Makes the Most Sense

So you’ve made the decision to use your equity in your home as security for a loan. Now you have to decide exactly what type of loan to take out. With the many choices for borrowing against your home, the decision can be a confusing one, and the wrong one can cost you money you shouldn’t have to spend. If you’ve decided to cash in on the equity in your home, but not exactly how to do it, let’s take a look at some of the options available to you.

Mortgage Refinance (A Cash-out Refi)
For many people, the most attractive option is a cash out refinance, often referred to as a ‘refi’. A refinance isn’t technically a home equity loan, or a second mortgage. It’s a replacement mortgage. When you refinance your mortgage, you use the money to pay off your existing mortgage and make payments on the new one instead. When should you consider a refinance?

- If interest rates have gone down since you got your original mortgage, or if you now qualify for a lower interest rate than the one that you’re currently paying.

- If the value of your home has appreciated considerably since you bought it and you can afford the payments on a higher mortgage.

A cash out refi makes sense if your home is worth considerably more than when you bought it and you can get a good interest rate on a new mortgage. In many cases, if your credit is good, you can borrow up to 125% of the current value of your home. Pay off the existing mortgage out of the loan money, and the rest is cash for you to use.

Home Equity Line of Credit
A home equity line of credit is a revolving charge account using your home as collateral. When you apply for a Home Equity line of Credit, the lender will approve you for a loan up to your spending limit, just like a credit card. You only borrow what you need when you need it, and only make interest payments on the amount you actually borrow. When should you consider a Home Equity Line of Credit?

- If you want an easy to access source of emergency loans without having to wait for approval during an emergency.

- If you are financing a project that will require multiple payments over a long period of time.

- If you are comfortable with a variable rate of interest.

Home Equity Loan
The most traditional method of accessing the equity in your home is with a home equity loan. A home equity loan generally carries a fixed interest rate, nearly always lower than an equivalent home equity line of credit. The difference between the two is that with a home equity loan you receive the full amount of the loan upon approval, and pay interest on the full amount from the start of the loan. When should you consider a home equity loan as your best option?

- If you want to borrow a large amount all at once for expenses that will be paid out immediately.

- If you want a lower interest rate on your loan, or need a fixed interest rate so that you can plan your budget around it.

If a home equity loan looks like your best option, it’s important to shop around for the best deal. Interest rates can vary widely from lender to lender. Compare all aspects of the loans you’re considering, and then choose the one that will cost you the least in the long run.