When you’re a homeowner, you have the option to borrow against the equity you’ve built up in your home. This can be a great way to get access to cash for major expenses, like home improvements or college tuition. But there are a few different types of home equity loans, and it’s important to understand the difference between them before you decide which one is right for you.
Home equity loans and home equity lines of credit (HELOCs) are both types of second mortgages, but they offer different pros and cons. A home equity loan is a lump sum of cash that’s paid back over a fixed period of time, usually five to 15 years. A HELOC, on the other hand, is a revolving line of credit that you can draw from as needed.
Reverse mortgages are a type of home equity loan that’s specifically designed for homeowners aged 62 and up. With a reverse mortgage, you don’t have to make monthly payments. Instead, the loan is paid off when you sell your home or pass away.
Here are a few things to consider when deciding which type of home equity loan is right for you:
Home Equity Loan vs. HELOC: How Much Can You Borrow?
With a home equity loan, you can borrow a lump sum of cash up to the loan limit set by your lender, which is typically 85% of your home’s value. So if your home is worth $300,000 and your mortgage balance is $200,000, you could potentially borrow up to $40,000 with a home equity loan.
HELOCs work differently. Rather than borrowing a lump sum all at once, you’re given a line of credit that you can draw from as needed, up to your credit limit. This limit is typically based on a percentage of your home’s value, minus your outstanding mortgage balance. So if your home is worth $300,000 and your mortgage balance is $200,000, you could potentially borrow up to $60,000 with a HELOC.
Home Equity Loan vs. HELOC: How Are They repaid?
With a home equity loan, you’ll have a fixed repayment schedule, typically over five to 15 years. This means you’ll know exactly how much you need to pay each month, and when the loan will be paid off.
HELOCs work differently. They’re typically repaid over a 10-year period, but during that time, you’ll only be required to make interest payments. The repayment of the principal balance isn’t due until the end of the 10-year period.
Reverse Mortgage: How Is It Repaid?
A reverse mortgage is repaid differently than a home equity loan or HELOC. With a reverse mortgage, you don’t have to make monthly payments. Instead, the loan is typically repaid when you sell your home or pass away. If you sell your home, the loan balance is paid off from the proceeds of the sale. If you pass away, the loan is paid off from your estate.
Home Equity Loan vs. HELOC: What Are the Interest Rates?
Home equity loan interest rates are typically lower than the interest rates on credit cards or personal loans. And, if you have a good credit score, you could qualify for a home equity loan with a low interest rate.
HELOC interest rates are typically variable, which means they can change over time. But, if you have a good credit score, you could qualify for a HELOC with a low introductory interest rate.
Reverse Mortgage: What Is the Interest Rate?
Reverse mortgage interest rates are typically higher than the interest rates on home equity loans and HELOCs. But, with a reverse mortgage, you don’t have to make monthly payments, so the interest that accrues on the loan is added to the balance of the loan.
Home Equity Loan vs. HELOC: What Are the Tax Implications?
Home equity loans and HELOCs are considered second mortgages, which means the interest you pay on them is tax-deductible.
Reverse Mortgage: What Are the Tax Implications?
The interest on a reverse mortgage is not tax-deductible.
Home Equity Loan vs. HELOC: What Are the Fees?
Home equity loans typically have closing costs, which can range from 2% to 5% of the loan amount. HELOCs also have closing costs, which can range from 3% to 6% of the credit limit.
Reverse Mortgage: What Are the Fees?
Reverse mortgages have closing costs, which can range from 2% to 5% of the loan amount. In addition, there are also annual fees, which are typically around 0.5% of the loan balance.