Should You Get a Home Equity Loan?

For nearly every family that has both a home and other debt, this question eventually comes up. Because every circumstance is unique, I can not answer the question for you, but I can give you some facts and tools that will help you make an informed decision.

Basic Information

A Home Equity Loan allows you to borrow money from the equity in your home to pay off debts, add improvements to your home, or use however you want. The equity in your home is the difference between what your home is worth and what you owe. For example, if your home is worth $300,000 and you owe $200,000, you have $100,000 in equity. Most of the time you can get a loan for that entire amount, sometimes even more (although that is generally very unwise). With a Home Equity loan, the amount you borrow, the payments, and the interest rate are fixed. A home equity line of credit (HELOC) uses your equity in the same way, except the borrowed amount, interest rate and payments can all be variable like a credit card.

Favorable

If you talk to a banker about getting a home equity loan or line of credit, you will hear many arguments in favor of having one. They include:

• š The interest is generally tax-deductible
• š Your payments will probably be lower than on your credit cards/other loans
• š You will send only one payment instead of several (making it less likely to pay late)
• š Your interest rate is often lower

Unfavorable

Bankers tend to ignore some very good reasons NOT to get a loan or line of credit on your home:

• š People who have lots of debt on credit cards tend to continue or even worsen their debting after consolidating the previous debt on an equity loan/line. This practice causes many to lose their homes or file for bankruptcy.
• š If you can not pay a credit card, your credit is ruined, but if you can not pay a home equity loan/line they take your home away.
• š If you use the equity in your home, it makes it much more difficult and expensive to upgrade to another home. If your home value has gone up 50% in the last 2 years, so have all the other homes around you. If you don’t have enough equity in your home, you will have to take out a bigger loan to buy a nicer/larger home.

What to know before you shop

If you tell a banker you want a home equity loan or line of credit, be assured that they will almost always do all within their power to convince you it is the right thing to do. However, do a little homework beforehand to see if it makes sense for you. You can run a bunch of really cool calculations on www.bankrate.com to see how beneficial it would really be for you to get a home equity loan/line.

Don’t ever just get one offer—make sure to check around at several banks, credit unions, and online banks. There is no one bank that always has the best rates and terms for every person in every circumstance. Even if you shopped before and found the best bank for a previous loan, this one may be different.

Know what the going interest rate is, but look at more than just the rate—ask your bank a few questions about the loan/line. What if I pay off early? Is there an early payoff fee? What are your options for terms, can I do a 5, 10, 15, 20 year term? How much are the closing costs? Are there any other fees? Under what circumstances could I get a lower rate?

Other Options

Usually, the best option for paying down debts is by looking carefully at cuts you can make in your spending and then adding that to your current payments. If done with discipline, this can actually save you MORE money than if you had just consolidated everything and put it on a home equity loan. See my article: “What you need to know to get out of Credit Card Debt” for accelerated payoff details.

Another option sometimes available, is asking the credit card company to lower your rate. If you have been a good customer for awhile, they are likely to want to keep your business. If they don’t work with you, you can try to transfer your balances to lower interest cards. Unfortunately, if you have substantial balances, this can be difficult to do since new cards often have lower credit limits.