Home Equity Loan vs. Line of Credit - What are the Differences? (2024)

FAQs

Which is better, a home equity loan or a home equity line of credit? ›

Choosing the right home equity financing depends entirely on your unique situation. Typically, HELOCs will have lower interest rates and greater payment flexibility, but if you need all the money at once, a home equity loan is better.

Cons of a home equity line of credit

While home equity loans come with a fixed interest rate, HELOCs have variable rates. This means that your rate can go up or down based on economic conditions, the Fed's monetary policy and other factors, which in turn affects your payments.

While a home equity loan would give you $50,000 upfront in the above example, a HELOC would give you access to a $50,000 line of credit. You might never borrow the full $50,000, and you'll only pay interest on the amounts you actually borrow. Check out: Should You Get a Home Equity Loan for Debt Consolidation?

Loan payment example: on a $50,000 loan for 120 months at 7.65% interest rate, monthly payments would be $597.43.

Key takeaways. The benefits of a home equity loan include consistent monthly payments, lower interest rates, long repayment timelines and a possible tax deduction. The downsides of a home equity loan include a significant equity requirement and the potential to lose your house or owe more than your home is worth.

If you choose a fixed-rate home equity loan, you'll be on a recurring payment schedule. So you'll know the exact amount of your monthly payments over the entire term of your loan. With a HELOC, you'll have the flexibility to make interest-only payments during your draw period.

HELOCs tend to have lower interest rates than other types of home loans. They can be a good option to finance a major expense like a home renovation, to consolidate debt or to cover an unexpected emergency. There are benefits to using a HELOC, particularly because you can borrow against your credit line at any time.

Don't: Use it to Pay for Vacations, Basic Expenses, or Luxury Items. You have worked hard to create the equity you have in your home. Avoid using it on anything that doesn't help improve your financial position in the long run.

When you apply for a HELOC, lenders typically require an appraisal to get an accurate property valuation. That's because your home's value—along with your mortgage balance and creditworthiness—determines whether you qualify for a HELOC, and if so, the amount you can borrow against your home.

If you took out a 10-year, $100,000 home equity loan at a rate of 8.75%, you could expect to pay just over $1,253 per month for the next decade. Most home equity loans come with fixed rates, so your rate and payment would remain steady for the entire term of your loan.

Is a home equity loan a 2nd mortgage? ›

A second mortgage is a home-secured loan taken out while the original, or first, mortgage is still being repaid. Like the first mortgage, the second mortgage uses your property as collateral. A home equity loan and a home equity line of credit (HELOC) are two common types of secondary mortgages.

A home equity line of credit or HELOC is another type of second mortgage loan. Like a home equity loan, it's secured by the property but there are some differences in how the two work. A HELOC is a line of credit that you can draw against as needed for a set period of time, typically up to 10 years.

The current average rate for a 10-year fixed-rate home equity loan is 9.07%. If you took out a $150,000 loan at that rate, you'd pay $1,905.82 per month for ten years. You'd end up paying a total of $78,698.86 in interest.

Example 2: 15-year fixed-rate home equity loan at 9.13% interest. The current interest rate for 15-year home equity loans is slightly higher at 9.13%. If you borrow $75,000 with these terms, you'll pay $62,971.97 in interest over the course of the loan — but your monthly payment will be lower at $766.51.

According to Experian, HELOC requirements are similar to those of a home equity loan. A minimum credit score of 680; 720 is preferred. An LTV ratio of at least 80%, meaning you've built 20% equity in your home. A DTI ratio of at least 43%.

If you know exactly how much you need to borrow, a home equity loan can be a better option than a HELOC. Home equity loans tend to have lower interest rates than HELOCS, and the rates are usually fixed for the life of your loan.

Despite their advantages, home equity loans come with many risks — like losing your home if you miss payments. You could also wind up underwater on the loan, lower your credit, or see rates on the loan rise.

“Homeowners should only do it if they are using the funds to improve their property.” A HELOC can be a worthwhile investment when you use it to improve your home's value. But it can become a bad debt when you use it to pay for things that you can't afford with your current income and savings.