The Pros and Cons of Home Equity Loans

January 13, 2011 - Kristin
A home equity loan allows you to use your home’s value to pay for something else, and it can be a great alternative to making a major purchase on a credit card or taking out another kind of loan.
 
On the other hand, taking out a home equity loan reduces the amount of equity you have and increases the amount you owe on your home, which may be one of your largest and most important assets.
 
As with other major financial decisions, you should talk with your financial advisor before taking a loan. To determine whether a home equity loan might be right for you, think through some of the pros and cons:
 
Pros:
  • You’ll have access to money from a lender you’re familiar with at a competitive rate, depending on your credit history.
  • You will likely receive the entire amount of the loan as a lump sum when you take the loan out.
  • Interest paid on home equity loans is almost always tax-deductible.
  • If your home appreciates in value during the term of the loan, the equity you have in your home will still increase.
  • Home equity loan rates are generally lower than rates on standard personal loans.
  • The money can be used for virtually any kind of purchase you choose.
 
Cons:
  • The interest rate on a home equity loan will almost always be higher than the interest rate on your regular mortgage.
  • Home equity loans generally allow lenders to freeze or reduce your limit if the value of your home declines significantly or if your financial circumstances change dramatically.
  • Many home equity loans are limited to terms that are shorter than a standard 30-year mortgage.
  • If you have trouble making payments on your house at any point while you have a home equity loan, you will owe even more than you would for just your standard mortgage.
  • At the same time, if you sell your house while you have a home equity loan outstanding, you will need to repay the entire balance at that time.
  • Your lender may require you to meet specific minimum and maximum loan amounts, and other fees and charges may apply.
A home equity loan might be a good way for you to access money for a major purchase with reasonable terms, but like any loan, you simply need to do your research ahead of time to make a good decision.

In addition, you may have access to another similar option for borrowing against the value of your house: a home equity line of credit. Home equity lines of credit are different from equity loans in a few key ways; our articles on the pros and cons of home equity lines of credit and comparing home equity loans and home equity lines of credit provide additional information.

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