How do home equity loans work?

In times of high inflation, Stock market volatility And Bank failure, many Americans are looking for ways to finance their expenses, pay off high-interest loans and, in general, make ends meet. Common solutions they turn to include: Credit card And personal loan. But homeowners shouldn’t overlook one of their best sources of financing: the equity in their home.

There are several ways homeowners can tap into their home equity, including: reverse mortgage, Cash-out refinancing, Home Equity Lines of Credit (HELOCs) And Home equity loan. Home equity loans, in particular, can be an affordable way to access funds for home repairs, renovations and other purposes.

But how exactly does a home equity loan work, and when does it make sense to get one? That’s what we’ll explore below.

Check out your home equity loan options here to see if a home equity loan is right for you.

How do home equity loans work?

A home equity loan acts as a second mortgage. This allows you to borrow a lump sum based on how much equity you currently have in your home. You repay this amount over a fixed period of time (typically, five to 30 years) at a fixed interest rate.

Your home equity is determined by subtracting your outstanding mortgage balance from the current market value of your home. The higher the value of your home, the more equity you have.

For example, say you bought your home for $300,000. You make a $50,000 payment, reducing the balance to $250,000. If your home is still worth $300,000 when you apply for a home equity loan, your equity will be $50,000 ($300,000 – $250,000). But if your home goes up in value to $400,000, your home equity will be $150,000 ($400,000 – $250,000).

Lenders typically allow you to borrow about 80% of your home equity. So, if your equity is $50,000, you can borrow $40,000. If you wait until your home is worth $400,000, you can borrow $120,000. Taking out a home equity loan enables you to maximize your loan amount when home values ​​are high. That said, regardless of the value of your home, a home equity loan can still be a better route than other financing options.

If you think you might benefit from a home equity loan, start exploring your options here.

Home Equity Loans Worth It?

A Home equity loans can be worth it For many reasons. Here are three that stand out.

• Low interest rates: A home equity loan is secured by your home, making it less risky for the lender. This security often means lenders offer lower interest rates on home equity loans than you would for financing options like credit cards. The specific interest rate you get depends on factors like yours Credit score and income. (Here’s something quick Tips to improve your credit)
• Fixed interest rate: HELOCs There are often variable interest rates, which means your payment may fluctuate from month to month. Home equity loans typically offer fixed rates for the term of the loan, allowing you to budget for a set monthly payment and protect against interest rate increases.
• Interest may be tax-deductible: If you use the proceeds of your home equity loan for an IRS-approved purpose, You may be able to deduct the interest on your tax return. “Interest on home equity loans and lines of credit is deductible only when the borrowed funds are used to purchase, construct, or substantially improve the taxpayer’s home that secures the loan.” The IRS Explains “the loan must be secured by the taxpayer’s principal home or second home (qualified residence) and meet other requirements.” Consult a tax professional if you are unsure whether you qualify for this exemption.

Bottom line

If you’re a homeowner, tapping into your home equity can be a great way to finance everything—from major purchases to paying off debt. You may also qualify for a tax deduction if you use the funds to build or make significant improvements to your home.

Remember to shop nearby Find the best home equity loan. Compare your options and apply if the home value is higher You can also take action Build your equity fast To increase how much a lender can pay you.