Building equity in your home starts the moment you put down your down payment. This equity continues to build as you pay down your mortgage balance, make improvements to your home, and let time pass. This doesn’t just work to your advantage when you choose to sell your home; you can borrow against your home in the form of a home equity loan for some of life’s major financial milestones.
Sometimes called a second mortgage, a home equity loan uses your home as collateral in exchange for a one-time payment. The terms of this loan will depend on a number of factors, including your credit score, the market value of your home, market conditions, and more.
Earlier this month, the Federal Reserve raised its key rate by 0.75% to reach a target range of 3.75% to 4%. When these rates go up, it is not uncommon for loan rates to go up as well.
This week’s home equity loan rates
Home equity loan rates remained unchanged this week after rising slightly last week in response to the Fed’s latest decision to rein in inflation. Here’s a look at this week’s average interest rates for home equity loans, compared to last week’s rates, as well as the best home equity loan rates in your area.
What is a home equity loan?
A home equity loan allows you to borrow against the market value of your home and receive a lump sum payment in return. For homeowners looking to finance larger projects or more expensive expenses, borrowing against their home equity can be an invaluable tool, especially because home equity loans tend to have higher interest rates. lower than other types of loans like student loans or personal loans.
A few cases where you might consider a home equity loan:
- Home Improvement Projects: Adding a deck to your home or renovating your bathroom or kitchen can be major value drivers and help you get a better return on your investment if you decide to sell your home. But these upgrades can also be expensive and not a perfect fit for your budget. Using a home equity loan to finance these projects gives you the ability to pay for them over time, and you have the option of using your home as collateral for a home equity loan to cover the cost of these projects.
- College costs: Home equity loans generally have lower borrowing rates, making them an attractive option for covering tuition costs. The downside: You might also miss out on some loan protections and forgiveness programs available to federal borrowers. Going this route could help you save money, but there are always financial risks, so be careful.
- Debt Consolidation: High-interest debt can be difficult to pay off if you pay more interest each month than your principal balance. Using a home equity loan to simplify multiple repayments and potentially get a lower interest rate could save you tons over the length of your repayment period.
- Emergency expenses: It’s important to have an emergency fund to catch you in the event of a fall, but building up a decent cushion takes time. For example, if you find yourself in a situation where you need to cover unexpected medical expenses, a home equity loan might be a relatively inexpensive option for doing so. However, it is important to make a plan for how you will repay this loan once all is said and done.
How do I calculate the equity in my home?
To determine the equity in your home, you will need to calculate the difference between the fair market value of your home and the amount you still owe. Assume your current mortgage balance is $150,000 and the current market value of your home is $350,000; that means you have about $200,000 of equity in your home.
Keep in mind that the market value of your home will fluctuate over time as you pay down your mortgage balance, the condition of your home changes, or there are changes in the housing market. and property values in your own neighborhood. Keeping a close eye on your mortgage balance and changes in your neighborhood and the economic climate around you can give you a more accurate reading of how your home equity is changing over time.
Advantages and disadvantages of home equity loans
Although home equity loans offer homeowners an additional opportunity to finance major purchases, they are not without risk. A home equity loan still requires you to use your home as collateral. If you don’t have a solid repayment strategy in place or if your home’s equity drops drastically, you could still end up paying thousands in interest or owing more than your property is worth.
Advantage: Home equity loans usually have fixed interest rates. Consistent payment amounts can make repayment more manageable.
Pros: Interest on home equity loans may be tax deductible. Who doesn’t love a freebie at tax time? If you use your home equity loan to cover the cost of home renovations and meet IRS requirements, you could lower the top of your tax bill a bit.
Disadvantage: Using your home as collateral is a risky decision. Defaulting on a home equity loan could mean the loss of your home.
Disadvantage: If the value of your home drops, you may end up owing more. Negative equity is a reality. If you borrow a large amount and the value of your home drops below that amount, you could end up with more debt than your home is actually worth.
Before taking out a home equity loan, weigh the potential risks and rewards to help you decide if it’s best for your long-term financial plan.
Frequently Asked Questions
What credit score do you need for a home equity loan?
A FICO score of at least 680 is generally required by most lenders for a home equity loan.
Are mortgage rates higher than mortgage rates?
Home equity loan rates are slightly higher than mortgage rates because these loans are only paid off after the main mortgages have been paid in full. If the home is foreclosed, the lender who holds the home equity loan is not paid until the first mortgage lender is paid.
Are home equity loans tax deductible?
The interest you pay on home equity loans may also be tax deductible for the first $750,000 for single filers ($375,000 if you are married and filing separately). To qualify for this deduction, you must use the funds to “purchase, build, or substantially improve your home” and itemize your returns, according to the IRS.
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