The most significant advantage to buying a home is building equity and increasing your net worth. Home equity loans, sometimes called second mortgages, are one way of tapping into that wealth and getting cash.
Applying for a home equity loan is similar to applying for a purchase or refinance loan. You need to compare rates and terms from several lenders, have enough home equity to meet their requirements, and submit your financial documents. Once approved, you’ll get a lump sum payment that you can use for any purpose. These loans feature a fixed interest rate and repayment terms of five to 30 years.
Since home equity loans are paid out upfront, they are useful for large one-time expenses and can be tax deductible if used for home improvements or renovations. However, as with any other secured loan, they are also risky. Because you’re using your home as collateral, your lender can foreclose on the property if you can’t make your mortgage payments and default on the loan.
Most banks and credit unions have similar requirements for qualifying for a home equity loan. Lenders generally require having sufficient equity, a good credit score, and a low debt-to-income ratio (DTI). Before you start the application process, it’s important to consider the following factors:
1. Determine how much equity is in your home
Home equity refers to the net cash value of your home as opposed to what you still owe the mortgage lender. The first step in determining how much equity you have is getting your home professionally appraised. You then subtract your current outstanding mortgage balance from your home’s appraised market value. Borrowers are required to have at least 15% to 20% equity in their homes to qualify.
2. Check your credit score
Most home equity loan lenders prefer borrowers with a good credit history and FICO scores of 700 or more; however, some do have more lenient requirements and accept borrowers with scores as low as 620. Borrowers with fair to poor credit scores may find qualifying difficult and might have to pay higher interest rates.
3. Calculate your debt-to-income ratio
The debt-to-income ratio is another common metric that lenders use to determine your ability to repay a loan. This ratio reflects how much of your monthly income goes toward paying existing debts. Lenders usually prefer a DTI ratio of 43% or less, although a select few may accept higher ratios of up to 50%.
4. Compare rates and fees
Shop around for rates and fees when considering a home equity loan. Borrowers who compare offers from at least three lenders are usually more successful in finding a low rate. Ask about any loan-related fees, and some banks may waive certain fees if specific conditions are met.
5. Apply
Before applying for a home equity loan, ensure you can take on the additional debt as your house could be at risk if you default. Lenders will require proof of a stable income and various documentation including social security number, driver’s license, pay stubs, and tax returns.
How long does it take to get a home equity loan?
Approval times can vary widely depending on the lender’s requirements and the complexity of the application process. In most cases, it can take anywhere from one to two weeks for approval and up to 60 days to fully complete the process and receive the funds. Factors such as missing documents, verification, home appraisal, and underwriting can impact how quickly you receive your loan.
Other loan options
Home equity lines of credit (HELOCs)
HELOCs are another form of second mortgage, offering a line of credit with a draw period to access funds and a repayment period for principal and interest payments.
Cash-out refinance
A cash-out refinance replaces your original mortgage with a new one for a larger amount, giving you access to the excess balance for various purposes.
Personal loan
Personal loans can be used for various expenses but typically come with higher interest rates compared to home equity loans.
When considering loan options, carefully evaluate your personal finance goals to determine the best fit for your needs.
How to Get a Home Equity Loan FAQs
What are home equity loans?
Home equity loans allow you to tap into your home’s equity for major expenses and often feature lower rates than personal loans.
What are the interest rates for home equity loans?
As of September 2024, home equity loan interest rates range from 6.99% to 10%.
How much can you borrow on a home equity loan?
Depending on the lender, borrowers can typically borrow from $2,000 to $500,000 or more, up to 85% of their home equity.
How to qualify for a home equity loan
Qualification requirements include having at least 20% equity in the home, a good credit score, a low debt-to-income ratio, and sufficient income.
How fast can you get a home equity loan?
Approval times vary depending on the lender’s requirements, necessary documentation, and the borrower’s financial situation. Some lenders offer same-day approval, while others may take a few weeks to process and fund the loan.
