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Health & Fitness

Home Equity Loans: Four Things You Should Know

In recent months, as rising home values have put more equity in the hands of their owners, home equity lending has been making a comeback as an easy source of funds.

At the same time, notes credit analyst Kirk Haverkamp at credit.com, lenders are loosening restrictions. But before deciding to tap into equity, there are four things you should know about home equity loans:

They are a type of mortgage – As such, they have advantages and disadvantages. On the plus side, the interest you pay is usually tax-deductible for those who itemize deductions, the same as regular mortgage interest – and, because the mortgage is secured by your home, the rates tend to be lower than you’d pay on credit cards or other unsecured loans. On the downside, because the debt is secured by your home, your property is at risk. If you fail to make the payments, you can be foreclosed on and lose your home.

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You need equity – Equity is the share of your home that you actually own, versus that which you owe to the bank. If your home is valued at $250,000 and you owe $200,000, you have $50,000 in equity, or 20%. That’s commonly described in terms of a loan-to-value ratio – the remaining balance on your loan compared to the value of the property – which in this case would be 80% ($200,000 being 80% of $250,000). Generally, lenders will want you to have at least an 80% loan-to-value ratio remaining after the home equity loan.

There are two types – The first is the standard home equity loan, where you borrow a single lump sum. If you’re looking at a single, major expense, such as replacing the roof on your home, this is usually best. The alternative is a home equity line of credit, or HELOC, where the lender authorizes you to borrow smaller sums as needed, up to a fixed amount. If you need to access various amounts of money over time, perhaps for several improvement projects, or for other purposes, a HELOC may be better.

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Think big - Lenders typically don’t want to make small home equity loans – $10,000 is about the smallest you can get. If you don’t need that much, opt for a HELOC and borrow only what you need. In any case, you should check with your financial advisor before proceeding.

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