"Home Equity Loans" are known as a second mortgages, and they allow homeowners to borrow money against the equity in their homes. home equity loans exploded in popularity in 1996 as they provided a way for consumers to somewhat circumvent that year's tax changes, which eliminated deductions for the interest on most consumer purchases. With a home equity loan, homeowners can borrow up to $100,000 and still deduct all of the interest when they file their tax returns. Here we go over how these loans work and how they may pose both benefits and pitfalls.
"Types of Home Equity Loans" - home equity loans come in two varieties - "fixed-rate loans" and "lines of credit" - and both types are available with terms that generally range from five to 15 years. Another similarity is that both types of loans must be repaid in full if the home on which they are borrowed is sold.
"Fixed Rate Home Equity Loans" Fixed rate home equity loans provide a single, lump-sum payment to the borrower, which is repaid over a set period of time at an agreed-upon interest rate. The payment and interest rate remain the same over the lifetime of the loan.
"Home Equity Lines of Credit" A home equity line of credit (HELOC) is a variable-rate loan that works much like a credit card and, in fact, sometimes comes with one. Borrowers are pre-approved for a certain spending limit and can withdraw money when they need it via a credit card or special checks. Monthly payments vary based on the amount of money borrowed and the current interest rate. Like fixed-rate loans, the HELOC has a set term. When the end of the term is reached, the outstanding loan amount must be repaid in full.
Home Equity Loan Benefits for Consumers - Home equity loans provide an easy source of cash. The interest rate on a home equity loan are higher than first mortgages, but lower than on credit cards and other consumer loans. As such, the number-one reason consumers borrow against the value of their homes via a fixed-rate home equity loan is to pay off credit card balances. Interest paid on a home equity loan is also tax deductible, as we noted earlier. So, by consolidating debt with the home equity loan, consumers get a single payment, a lower interest rate and tax benefits.
Home equity loans can be valuable tools for responsible borrowers. If you have a steady, reliable source of income and know that you will be able to repay the loan, its low interest rate and tax deductibility of paid interest makes it a sensible alternative. Fixed-rate home equity loans can help cover the cost of a single, large purchase, such a new roof on your home or an unexpected medical bill. And the HELOC provides a convenient way to cover short-term, recurring costs, such as the quarterly tuition for a four-year degree at a college or to fuel capital into your new "home-based small business".