Home Equity Line of Credit or Loan: What's the Real Difference?

iQuanti: A Home Equity Line of Credit (HELOC) and Home Equity Loan both use the equity in your home to secure a loan. Equity is determined by the difference between what is currently owed on your mortgage and the home's current market value. Home equity lenders will often allow loans up to 85% of a home's equity. 

Using either of these home equity lending options allows for a lower interest rate than using credit cards or unsecured personal loans, but there is a risk of losing your home when borrowers are unable to pay. 

Both home equity loans and HELOCs may allow the borrower to deduct the cost of interest from your taxes when the funds you borrow go towards improving your home.

What Is A HELOC?

The major benefit of a HELOC is that it's a revolving credit line that can be used and repaid multiple times by the borrower. This line of credit will be available to use until the withdrawal term ends and can be extended up to 10 additional years in some cases.  

The monthly payment is not fixed because the amount borrowed can change and the HELOC interest rate is often variable (based on the market rate for lending when the money is borrowed). 

HELOCs have a draw period followed by a repayment period. The draw period is the time when homeowners can pull money from equity. Once the draw period ends, the repayment period begins when money is paid back without any more being loaned. 

Some lenders allow the payments during the draw period to be interest only, whereas the payments during the repayment period are principal plus interest. 

What is a Home Equity Loan?

Home Equity Loans are second mortgages that, unlike HELOCs, offer lump-sum payments. While that can work for certain expenses, if you don't know how much you need to borrow, home equity loans will require you to start making payments based on the full amount.

Home equity loans typically also include fixed interest rates. Fixed rates can work well to ensure stable interest charges over the life of the loan, but you won't see rates move down with economic conditions like a HELOC variable rate could.

Home equity loan payments are made monthly for the life of the loan during the loan, so you can't benefit from the HELOC's withdrawal period that may require only payments of interest.

What Are the Major Differences?

The first major difference is how long it takes to get money: HELOCs usually can be accessed within 10 days while Home Equity Loans will take 2-6 weeks on average. 

Second, a Home Equity Loan can be used only once in a lump sum whereas HELOCs can be used as many times as needed during the draw period, up to the preset borrowing limit. 

HELOCs often have a variable interest rate, so the payment is less when national interest rates are low and higher when the market changes. Home Equity Loans offer the same payment and interest rate for the life of the loan.

HELOCs can be a security against future emergencies that can give a homeowner peace of mind if spending habits aren't impulsive. Impulsive spenders would be better served using a Home Equity Loan that is not always available for additional withdrawals.

Lending Requirements

Lenders generally have about the same lending requirements for both options:

  • Credit score higher than 600
  • At least 20% equity in the home
  • Two or more years of stable, verifiable income

Borrowers that don't meet these requirements may be able to still secure financing but the interest rates may be higher or repayment terms more strict.

Picking the right home equity option for you

Homeowners should consider the needs of their family and make the choice that is best for them. 

Things to think about when deciding include: what will the money be used for, how quickly is the money needed, what amount can be budgeted for right now, long-term financial plans, and risk tolerance of fixed rate versus variable interest rate.

Source: iQuanti, Inc.


Categories: Mortgages and Loans

Tags: HELOC, home equity line of credit, home equity loan